The financial crisis of 2008 has exposed weakness of the financial systems not only in developed countries but also in major Emerging Market Economies (EMEs). However, the intensity of its spillover effects varies across countries depending upon extent of the regulatory shortcomings. While bailout packages and stimulas packages became common in advanced economies, the domestic financial system has been insulated largely from such turmoil thanks to conservative policy adopted by the RBI. But policy challenges posed to the domestic economy include price stability and financial stability without hampering the economic growth performance.
Financial Sector Reforms
Indian financial system was suffering from governmental repression indicated by administered interest rates, regulated allocation of financial resources, non-transparent accounting norms and extensive micro-regulations on entry and exit of firms in the sector. The pre-dominance of the govt. securities and low capitalization levels had constrained competitive potential in the sector. Numerous controls on capital market and foreign exchange market were also a big burden on development of financial sector. The monetary policy was misused to monetize the high fiscal deficit through interest rate regulations, credit rationing, and high CRR. Therefore, major part of financial sector reforms had to with banking sector reforms and thus minimizing political interference in the conduct of monetary policy.
Performance of the Monetary Policy
1. Impact on Banking Sector
With liberalisation process of the early 1990s, several private banks-domestic and foreign- have entered domestic banking sector. As a result of prudent poicy-framework, a very significant improvement has taken place in productivity of Indian banking system in terms of standard productivity indicators such as cost to income ratio, intermediation...