Understanding Monetary Policy: - A study of RBI’s Policy rates and monetary transmission

in India
Section C – Mohit Verma
PGPID- PGP35124

Declaration: I, Mohit Verma hereby declare that the report is my sole effort and that no part of the
report is copied from others, or from any published sources.

The monetary policy of RBI holds a great value for an economy, it is the prime determinant of
output, employment and prices. The fiscal strategy assumes key job in the advancement of
immature nations by controlling value vacillations and general financial exercises. This is finished
by profiting and the stock of cash. As the economy creates, there is nonstop increment sought
after for cash.

Q1. Data Representation

Relevant Data:
All figures are in Billions Indian Rupees
 b) Sources of Money Stock

c) RBI Policy Rates and Market Interest Rates, Inflation and Nominal GDP

Note: Inflation is in form of percentage of GDP, Nominal GDP figured in Billion Rupees
And all other rates in form of percentages
 Q2.

12000000 Contributi on of sources of Money Stock

10000000

8000000

6000000

4000000

2000000

0
1 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
-2000000 -96 -97 -98 -99 -00 -01 -02 -03 -04 -05 -06 -07 -08 -09 -10 -11 -12 -13 -14 -15 -16 -17 -18 -19

Net RBI Credit to Central Government Net RBI Credit to State Governments
Other Banks' Investments in Government Securities Net Bank Credit to Government (2+3+4)
RBI Credit to Commercial Sector Other Banks' Credit to Commercial Sector
Bank Credit to Commercial Sector (6+7) Govern- ment's Currency Liabilities to Public
RBI's Gross Claims on Banks

70 Sources of Money Supply in India as % of total

60
50
40
Percentage

30
20
10
0
92 93 94 95 96 97 98 99 -00 -01 -02 -03 -04 -05 -06 -07 -08 -09 -10 -11 -12 -13 -14 -15 -16 -17 -18
-10
91- 92- 93- 94- 95- 96- 97- 98- 99Net 0 0credit
0bank 1 02to government
03 004 005(A)006 007 008 009 010 011 012 013 014 015 016 017
19 19 19 19 19 19 19 19 19 ~RBI’s 20 net20 credit
20 to20 government
2 2 2 2 2 2 2 2 2 2 2 2 2 2
~Other banks’ credit to government
Year
Bank credit to commercial sector (B)
Net foreign exchange assets of banking sector (C)
Government’s currency liabilities to the public (D)

With increasing GDP, net RBI credit to central government is increasing but the
contribution as total percentage is fairly constant. Net bank credit to government as percent
of total has decreased over the period of time. Throughout the years, net bank credit to the
Government has diminished as a level of the absolute wellspring of Money supply, while
other bank's credit to the Government of India has expanded generally which again shows a
reinforcing of the business bank division. Bank credit to business division has expanded as a
level of cash supply which shows the expectation of the financial part to help private
speculation and in this manner the improvement of the economy. The RBI net credit to the
Government has again diminished as a level of the cash supply however a differentiating
highlights the year 2007-08 when after a plunge in the rate, there has been a consistent
increment in RBI's net credit to Government on the grounds that the Indian Central Bank
 interceded which shows India has a grimy gliding swapping scale framework and RBI
attempted to acquire an equality the economy after the worldwide downturn. There has
been an unfaltering increment in the level of Net remote trade resources of banking part as
the years progressed.
Q3.

Comparis on of Policy rate s and int e re s t rate s

35

30

25

20

15

10

0
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Bank Rate Repo Rate Reverse Repo Rate

Marginal Standing Facility CRR SLR
Interest Rate(Govt. Securities)

If we look into the SLR, it has been on a decline since 1995 as a percentage of GDP. Interest
rate, bank rate and CRR have also been on a decline. Repo rate and Reverse Repo rate has
been more or less constant over the period of time. The decrease in the repo and the bank
rate could mean a decrease in the EMIs (likened regularly scheduled payments) for
borrowers if the rate cuts are passed on by the banks. Borrowers are probably going to
appreciate lower loan costs if banks diminish their loaning rates which they can do simply in
the wake of assessing their working costs, cost of stores, and so on. The advantage goals and
bank recapitalisation are relied upon to fortify bank accounting reports and improve banks'
eagerness to change their loaning rates couple with the adjustment in the strategy rates.
India is a creating market taking proactive measures to make a strong money related
framework. Empowering successful fiscal transmission would not just expand the validity of
the Central Bank yet in addition help in reinforcing the money related structure.
Q4.

Comparis on of Policy rate s and int e re s t rate s

35

30

25

20

15

10

0
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Bank Rate Repo Rate Reverse Repo Rate

Marginal Standing Facility CRR SLR
Interest Rate(Govt. Securities)

Breaking down the charts, we can see that CRR and SLR has diminished throughout the years
which signifies business planned banks need to keep a lesser level of their fiscal resources with
RBI in type of money or securities and consequently will have more measure of cash accessible
with them to loan. As broke down, one might say that the transmission from strategy rates to
the market loaning rates isn't lithe in India.

A significant part of transmission instrument of fiscal arrangement is Bank as it is the business

banking framework since it is they who loan cash and any obstacle in that pathway will bring an
effect. From Prime Lending Rate in 1994, Benchmark Prime Lending Rate(BPLR) in 2003, Base
Rate framework in 2010 to at last Marginal Cost of Funds Lending Rate(MCLR) in 2016, RBI has
attempted to get an equality in the manner the last loaning rate is controlled by the business
banking framework however because of errors existing inside the financial framework, the last
loaning rate had suggestions. For e.g., while setting benchmarks banks favoured inward
benchmarks over outside benchmarks to set the loaning rate where outer benchmarks where
unquestionably progressively straightforward. Again presentation of PLR didn't help has PLRs of
banks were for the most part unbending and were not adaptable contrasted with the loan cost
which the economy was making a beeline for. The BPLR additionally didn't help in the process
just as it investigated the expense of assets and tasks cost of the bank to decide the loaning
rate, it inevitably didn't appear and banks wound up in countless cases giving advances at sub
BPLR rate. The Base rate framework acquainted due with all these likewise didn't help in the
 transmission instrument significantly on the grounds that the banks were very little adaptable
in deciding the loan fee.

At long last, RBI presented MCLR anticipating more straightforwardness, spryness and
adaptability in deciding the loaning rate additionally joining Base Rate for credits previously
given. Research information demonstrated it has not accomplished its ideal target. Potential
reasons could be inflexibility on the obligation side of the banks where because of fixed loan
costs, there exists an unbending nature in the transmission procedure. Another legitimate
explanation is rivalry which banks are looking from the NBFCs and other money related
instruments which has an effect in deciding the loan cost. In this way, loaning rates change by
banks and the money related transmission instrument isn't agile.
Q5.
Q6.

Money Velocity and Money Multi plier

8
7
6
5
4 Money Velocity at M3
3
Ratio

Money Velocity at M0
2 Money Multiplier
1
0
5 7 9 1 3 5 7 9 1 3 5 7
-9 -9 -9 -0 -0 -0 -0 -0 -1 -1 -1 -1
994 996 998 000 002 004 006 008 010 012 014 016
1 1 1 2 2 2 2 2 2 2 2 2

Year

Velocity of Money is really turnover of Money supply. Here, it tends to be seen that the Money
velocity has diminished a piece from 1990-91 period to 2017-18 yet pretty much the cash
velocity has been in a steady zone and has not expanded considerably. From 1991-2007, there
has been a consistent decline in Money Velocity M0 for the most part till 2007, in any case, there
has been a slight increment in Money velocity post 2007, the significant explanation which could
be ascribed to the reason is-the GDP has expanded at a slower rate contrasted with the cash
supply be that as it may, post 2007, the development pace of GDP has been more contrasted
with the rate at which cash supply developed. An expansion in Money Velocity should expand
the swelling rate, in any case, in India, it very well may be seen the upward pattern isn't
noteworthy and in this manner the expansion rate has not build significantly and pretty much is
under check.

Conclusion: - For a nation like India, it is significant that the money related and monetary
approach should cooperate to improve the development of the economy. While the financial
arrangement works through expanding the Government use or having a cut or increment in
charge rate, Monetary strategy of the Central Bank of the nation works primarily through various
approach rates. Through those loan fee, RBI can affect the cash supply just as the total interest
and along these lines on the yield of the nation. Be that as it may, there exists a few issues in the
transmission component of fiscal strategy for example The loaning rates at which banks loan as a
uniqueness with the rate at which RBI needs them to loan. By and large, there exists a solid
associated system of both financial and money related approach to realize an adjustment in the
yield of the nation.

References:

[1] https://dbie.rbi.org.in/DBIE/dbie.rbi?site=home

[2] https://www.businesstoday.in/opinion/columns/monetary-policy-transmission-in-india-
rbi-reserve-bank-of-india-central-bank-repo-rate/story/383377.html

[3] https://www.bankbazaar.com/finance-tools/emi-calculator/repo-rate-vs-bank-rate.html