Monetary Policy Tools in India

Monetary Policy:
Refers to programs that try to increase or decrease the nation’s level of business by regulating the supply of money and credit. This policy tool has a goal of increasing or decreasing the level of business activity in an economy.
Monetary policy is RBI’s primary responsibility. Below are the main monetary policy tools that RBI uses: A) Quantitative Credit Control Methods:

1) Repo and Reverse Repo:
-Repo or repurchase option is a means of short-term borrowing, wherein banks sell approved government securities to RBI and get funds in exchange. In other words, in a repo transaction, RBI repurchases government securities from banks, depending on the level of money supply it decides to maintain in the country's monetary system.
- Repo rate is the discount rate at which banks borrow from RBI. Reduction in repo rate will help banks to get money at a cheaper rate, while increase in repo rate will make bank borrowings from RBI more expensive. If RBI wants to make it more expensive for the banks to borrow money, it increases the repo rate. Similarly, if it wants to make it cheaper for banks to borrow money, it reduces the repo rate.
-Reverse repo is the exact opposite of repo. In a reverse repo transaction, banks purchase government securities form RBI and lend money to the banking regulator, thus earning interest. Reverse repo rate is the rate at which RBI borrows money from banks. Banks are always happy to lend money to RBI since their money is in safe hands with a good interest.
-Current Repo Rate is 7.25% and Reverse Repo Rate is 6.25%.
2) Bank rate:
-Bank rate is the rate at which the Central bank lends money to the commercial banks for their liquidity requirements.
-Bank rate is also called discount rate. In other words bank rate is the rate at which the central bank rediscounts eligible papers (like approved securities, bills of exchange, commercial papers etc) held by commercial banks.
-Current Bank rate is 10.25%.
3) Open Market Operations:
This refers to buying and selling of government securities by RBI to regulate the short-term money supply. If RBI wants to induce liquidity or more funds in the system, it will buy government securities and inject funds into the system, and if it wants to curb the amount of money out there it will sell these to the banks thereby reducing the amount of cash that banks have.
4) Statutory Liquidity Ratio (SLR):
Under SLR, the government has imposed an obligation on the banks to maintain a certain ratio of its total deposits (time and demand liabilities) with RBI in the form of liquid assets like cash, gold and other securities. Current SLR rate is 23%.
5) Cash reserve ratio (CRR):
This is the percentage of a bank’s time and demand liabilities that needs to be kept as cash with RBI. RBI can vary the percentage up to a limit. A high percentage means banks have less to lend and hence, curbs liquidity and a low CRR does the opposite. RBI can use the CRR to tighten or ease liquidity by increasing or decreasing it as the situation demands. At present, CRR is at 4%. B) Qualitative Credit Control Methods:

Other than quantitative controls, RBI also follows qualitative controls. These are mentioned as below:

1) Ceiling on Credit to borrowers by banks. 2) Margin/ collateral requirements against loans issued by banks. 3) Discriminatory interest rates for easy loan provisions to priority and weaker sectors. 4) The RBI issues directives to banks regarding advances. Directives are regarding the purpose for which loans may or may not be given. 5) RBI can take direct actions against bank like cancellation of license etc, if the bank has failed to comply with the directives of RBI. 6) Moral Suasion is just as a request by the RBI to the commercial banks to take particular actions and measures in particular trend of the economy. RBI may request commercial banks not to give loans for unproductive purpose which does not add to economic growth but increases inflation