Instruments of Monetary Policy

• Quantitative measures ( Traditional measures)

1. Open Market Operations
2. Discount Rate or Bank Rate
3. Cash Reserve Ratio (CRR) and Statutory Liquidity Requirement(SLR)

• Qualitative or Selective Credit Controls

1. Credit rationing
2. Change in Lending margins
3. Direct controls
 RBI POLICY REVIEW October 27, 2009

The Annual Policy Statement on October 27, 2009

1. Repo rate (4.75%)
2. Reverse repo rate (3.25%
3. Cash reserve ratio (5%) have stayed unchanged at
earlier levels; the status quo is in line with
expectations.
4. The statutory liquidity ratio (SLR) has been restored
to 25% of net demand and time liabilities.
Repo is a collateralized lending i.e. the banks which borrow money
from Reserve Bank to meet short term needs have to sell
securities, usually bonds to Reserve Bank with an agreement to
repurchase the same at a predetermined rate and date.

Reverse repo Reserve Bank borrows money from banks by lending

securities. The interest paid by Reserve Bank in this case is called
reverse repo rate.
Inflation Causes and Effects
In economics, inflation is a rise in the general
level of prices of goods and services in an
economy over a period of time.

Impact ?

Purchasing Power of money

Decrease in the real value of money and other monetary
items over time

Uncertainty about future inflation may discourage investment

and saving, and high inflation may lead to shortages of goods
if consumers begin hoarding out of concern that prices will
increase in the future.

Income redistribution - many people have to live off fixed

incomes, particularly those on pensions. The higher the level
of inflation the less their income will be worth. This effect can
also happen among people who are working, as their incomes
go up either faster or slower than inflation. These effects can
arbitrarily redistribute income.
 Inflation - Causes
• Excessive growth of the money supply.
• Money supply growing faster than the rate of
economic growth.
• Demand-pull inflation
• Cost-push inflation
Monetary authorities are the central banks
that control the size of the money supply
through the setting of interest rates,
through open market operations, and
through the setting of banking reserve
requirements
 Demand-pull inflation

Demand-pull inflation happens where there is 'too

much money chasing too few goods'. Excessive
growth in demand literally pulls prices up
 Cost-push inflation

If costs rise too fast, companies will need to put

prices up to maintain their margins. This will cause
inflation.
Excessive demand - 'too much money chasing too
few goods'. If demand is growing faster than the
level of supply, then prices will increase.

Demand Pull Inflation

 Cost-push inflation happens when firms' costs
go up. To maintain their profit margins, firms
then need to put their prices up.
•Wage increases - wages are a major proportion of costs for many firms
and so if wages are increasing, this may well cause cost-push inflation.

•Government - if the government changes taxes, this may push up

firms' costs. This is particularly true with excise duties on fuel and oil.
Changes in interest rates can also affect firms costs if they have
borrowed significant amounts.

•Abroad - exchange rate changes can affect firms' costs, particularly if

they import many of their raw materials. An exchange rate depreciation
will increase import prices and may therefore increase firms costs.
The effect of cost increases is to shift the
aggregate supply to the left
Cost push inflation