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Monetary Policy

Topics: Monetary policy, Inflation, Central bank / Pages: 3 (626 words) / Published: Mar 12th, 2014
MONETARY POLICY
Monetary policy is the process by which the Monetary authority of a country controls the supply of money, often targeting a rate of interest for the purpose of promoting economic growth and stability.
Fiscal Policy is government spending policies that influence macroeconomic conditions. These policies affect tax rates, interest rates and government spending, in an effort to control the economy.
How is the Monetary Policy different from the Fiscal Policy?
The Monetary Policy regulates the supply of money and the cost and availability of credit in the economy. It deals with both the lending and borrowing rates of interest for commercial banks.
The Monetary Policy aims to maintain price stability, full employment and economic growth.
The Fiscal Policy can be used to overcome recession and control inflation. It may be defined as a deliberate change in government revenue and expenditure to influence the level of national output and prices.
INSTRUMENTS OF MONETARY POLICY
1. Bank Rate of Interest
2. Cash Reserve Ratio
3. Statutory Liquidity Ratio
4. Open market Operations
5. Margin Requirements
6. Deficit Financing
7. Issue of New Currency
8. Credit Control
Bank Rate of Interest
It is the interest rate which is fixed by the RBI to control the lending capacity of Commercial banks . During Inflation , RBI increases the bank rate of interest due to which borrowing power of commercial banks reduces which thereby reduces the supply of money or credit in the economy .When Money supply Reduces it reduces the purchasing power and thereby curtailing Consumption and lowering Prices.
Cash Reserve Ratio
CRR, or cash reserve ratio, refers to a portion of deposits (as cash) which banks have to keep/maintain with the RBI. During Inflation RBI increases the CRR due to which commercial banks have to keep a greater portion of their deposits with the RBI . This serves two purposes. It ensures that a portion of bank deposits is totally risk-free and secondly it enables that RBI control liquidity in the system, and thereby, inflation.
Statutory Liquidity Ratio
Banks are required to invest a portion of their deposits in government securities as a part of their statutory liquidity ratio (SLR) requirements . If SLR increases the lending capacity of commercial banks decreases thereby regulating the supply of money in the economy.
Open market Operations
It refers to the buying and selling of Govt. securities in the open market . During inflation RBI sells securities in the open market which leads to transfer of money to RBI.Thus money supply is controlled in the economy.
Margin Requirements
During Inflation RBI fixes a high rate of margin on the securities kept by the public for loans .If the margin increases the commercial banks will give less amount of credit on the securities kept by the public thereby controlling inflation.
Deficit Financing
It means printing of new currency notes by Reserve Bank of India .If more new notes are printed it will increase the supply of money thereby increasing demand and prices.
Thus during Inflation, RBI will stop printing new currency notes thereby controlling inflation.
Fiscal Policy
It refers to the Revenue and Expenditure policy of the Govt. which is generally used to cure recession and maintain economic stability in the country.
The term fiscal policy refers to the expenditure and taxation policy of the government, which can influence economic activity by its expenditure program and imposing or lifting taxation on certain goods and services.
Fiscal policy aims at raising financial resources through taxation and borrowing within the country and from abroad.
Objectives of the Fiscal Policy
Promotion of Economic Development and Growth
Mobilization of Resources
Reduction of Inequality of Income
Expansion of Employment
Price Stability
Instruments of Fiscal Policy
1. Reduction of Govt. Expenditure
2. Increase in Taxation
3. Imposition of new Taxes
4. Wage Control
5. Rationing
6. Public Debt
7. Increase in savings
8. Maintaining Surplus Budget

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