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Discuss the instruments of Monetary policy of Reserve Bank of India.

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As per Banking Regulation act of 1949, RBI has the power to adopt and implement various credit control measures to achieve objectives like proper regulation of volume of credit and prices. 

The instruments of Monetary policy of RBI are as follows:

I. Quantitative measures: The quantitative methods of credit control implemented by RBI are as follows:

(a) Bank Rate Policy: It is the standard rate at which RBI is prepared to buy or rediscount bills of exchange or commercial papers eligible for purchase according to the banking regulation act. It is the rate at which RBI extents advances to commercial banks. This influences the lending rates of commercial banks. Earlier in 1991 the rate was 12% and as on 2005, it was 6% and it was 5.5% in 2008.

(b) Open Market Operations: It refers to purchase and sale of various assets like gold, Government securities, foreign exchange, etc by RBI. The expansion and control of supply of money is done by “Open market operations”. RBI purchases securities during deflation and sells during inflation.

(c) Variable reserve requirements: As per the banking regulation act, every bank has to keep certain percentage of its total deposits with RBI in the form of reserve fund. By changing the ratio (increase or decrease) of these reserves, RBI can control the credit power of banks.

These variable requirements are of two types. They are Cash reserve ratio (CRR) and Statutory liquidity ratio (SLR): 

(1) Cash reserve ratio (CRR): It is the portion of total deposits of the commercial banks which has to keep with RBI in the form known as cash reserves. At present CRR is at 5% as on 21st January 2005.

(2) Statutory liquidity ratio (SLR): It is the portion of total deposits of commercial banks which they have to keep with them selves and these deposits must not be used for credit purpose. In other words, SLR refers to that portion of total deposits which a commercial bank has to keep with it self in the form of liquid assets viz., cash, gold or approved Government securities. The SLR has been reduced to 25% on the entire net demand. This is as per the recommendations of Narasimham committee.

II. Selective credit controls: These are those measures used by RBI along with other measures to control credit. It is used as the supplement to the regular credit regulations. The selective credit controls used by RBI are as follows:

(a) Fixation of margin requirements: A central bank changes the margin requirement from time to time to regulate the volume of the credit. The difference between the market value of securities or assents and the amount actually lent against these securities is called margin. The RBI may increase the margin to reduce the volume of credit and decrease the margin to expand the credit. 

(b) Regulation of Consumer credit: Consumer credit refers to financial assistance given by banks to consumer to purchase vehicles, electronic goods, electric items etc. In order to avoid demand pull inflation, the RBI regulates the consumer’s credit. 

(c) Moral suasion: It implies that persuasion and request made by the Central Bank to Commercial Banks to cooperate with the general monetary policy. 

(d) Direction action: The RBI may take direct action against the erring commercial banks by refusing to rediscount their commercial bills and may charge penal rate of interest. 

(e) Credit Rationing: The RBI through its credit rationing system, directs the commercial banks to borrow loans to a certain limit. In turn, the commercial banks will lend loans to limited sector and there the supply of money gets controlled. 

(f) Publicity: The RBI gives regular publicity about money market trends, educates the commercial banks to regulate the credit. It includes publishing the monthly review of credit and business conditions and the annual reports on the banking sectors.

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