RBI’s Monetary Policy Meet

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Context

• The Reserve Bank of India (RBI) announced its short-term rate lending decision.

Details

• RBI has kept the repo rate steady for the sixth time in a row. 
• As of now, the repo rate stands at 6.5 percent after a 0.25 percent hike by RBI in February 2023.
• Inflation has remained largely above or at the upper end of RBI’s tolerance band of 2-6 per cent.

Monetary Policy:

• Definition: Monetary policy, managed by the Reserve Bank of India (RBI), is a key macroeconomic strategy aimed at regulating the nation's money supply and interest rates to foster sustainable economic growth.
• Objective: Its primary aim is to regulate the nation's money supply and interest rates to foster sustainable economic growth.
• Nature: This policy operates as a demand-side economic measure, influencing various aspects such as inflation, consumption, growth, and liquidity.

Expansionary and Contractionary Policies:

Expansionary Policy:

• Strategy: Focuses on increasing the money supply to stimulate economic activity.
• Measures: Lowering interest rates, purchasing government securities by central banks, and lowering the reserve requirements for banks.
• Effects: Aims to lower unemployment and stimulates business activities and consumer spending.
• Risks: May lead to higher inflation.

Contractionary Policy:

• Strategy: Aims to decrease the money supply to control inflation.
• Measures: Raising interest rates, selling government bonds, and increasing the reserve requirements for banks.
• Objective: Designed to curb inflationary pressures within the economy.

Objectives:

Inflation Management:

• Goal: To maintain stable inflation levels conducive to economic stability.
• Method: Utilizes various policy tools to target inflation rates within specified tolerance limits.

Unemployment Control:

• Impact: Monetary policies can influence the level of unemployment in the economy.
• Strategy: Expansionary policies generally decrease unemployment by stimulating economic activity.

Currency Exchange Rates:

• Role: Central banks regulate exchange rates between domestic and foreign currencies.
• Tool: By adjusting the money supply, central banks influence the strength of domestic currency relative to others.

Monetary Policy Tools:

Quantitative Tools:

Reserve Ratio:

• Cash Reserve Ratio (CRR): Banks are required to keep aside a set percentage of cash reserves with the RBI.
• Statutory Liquidity Ratio (SLR): Banks are required to keep aside a set percentage of reserves in liquid assets.

Open Market Operations (OMO):

• Buying and selling government securities to control the money supply.

Market Stabilization Scheme (MSS):

• Implemented to manage liquidity fluctuations in the market.

Policy Rates:

• Bank Rate: The interest rate at which RBI lends long-term funds to banks.
• Liquidity Adjustment Facility (LAF):
• Utilized through Repo and Reverse Repo rates to adjust liquidity

Monetary Policy Committee (MPC):

• Composition: Comprises officials from the RBI and external members nominated by the Government of India.
• Functions: Formulates monetary policy decisions, particularly regarding interest rates.
• Meetings and Decision Making: Hold regular meetings to determine policy interest rates aimed at achieving targeted inflation rates.

• Proposal: The Urjit Patel Committee was the first committee to propose the establishment of the Monetary Policy Committee (MPC).
• Mandate: The primary objective of the MPC, empowered by the RBI Act, of 1934, is to determine the policy interest rate required to achieve the inflation target.
• Meetings: The MPC holds meetings at least four times a year and publishes its decisions after each meeting.
• Composition: The committee comprises six members - three officials of the Reserve Bank of India and three external members nominated by the Government of India.
• Term: Each member has a tenure of four years.
• Confidentiality: Observe a "silent period" seven days before and after the rate decision for utmost confidentiality.
• Decision Making: Decisions are taken by majority vote, with the Governor having the casting vote in case of a tie.

Inflation Targets:

• Set Parameters:

• • Targeted consumer price index (CPI) inflation rate set at 4%.
  • Upper tolerance limit: 6%, Lower tolerance limit: 2%.

Time Frame:

• • Targets span from April 1, 2021, to March 31, 2026.

Trivia