RBI’s bi-monthly monetary policy review

Context

In the release of Reserve Bank of India (RBI’s) bi-monthly monetary policy review report, the interest rates remains constant for the second consecutive time this year. Significance of the move:

• The constant interest rates bring relief for borrowers and markets (Capital) as the EMIs and investments benefitted.
• This is expected to give some stability to the credit market, to boost capital expenditure and investments.
• The decision will be driven by surplus liquidity in the banking system due to improvement in low-cost current account and savings account (CASA) balance following the deposit of Rs.2000 banknotes.

About Monetary Policy:

• The rules that are made to regulate the economy of any country are called monetary policy.
• Monetary policy is prepared by the monetary policy committee (MPC).
• The money flow in any country is controlled through monetary policy. Through these rules, the entire banking system of the economy is controlled.

Tools of monetary Policy:

• Open Market Operations: The objective of OMOs is to adjust the level of reserve balances to manipulate the short-term interest rates and that affect other interest rates.
• Interest Rates:
  • The central bank may change the interest rates or the required collateral that it demands. In the U.S., this rate is known as the discount rate. Banks will loan more or less freely depending on this interest rate.
• Reserve Requirements:
  • Authorities can manipulate the reserve requirements, the funds that banks must retain as a proportion of the deposits made by their customers to ensure that they can meet their liabilities.

Goals of Monetary Policy:

• To curb Inflation:
  • Contractionary monetary policy is used to temper inflation and reduce the level of money circulating in the economy. Expansionary monetary policy fosters inflationary pressure and increases the amount of money in circulation.
• Unemployment:
  • An expansionary monetary policy decreases unemployment as a higher money supply and attractive interest rates stimulate business activities and expansion of the job market.
• Exchange Rates:
  • The exchange rates between domestic and foreign currencies can be affected by monetary policy. With an increase in the money supply, the domestic currency becomes cheaper than its foreign exchange.

What will be its impact?

• As the repo rate remains at 6.5%, external benchmark lending rates (EBLR) linked to the repo rate will not increase.
• For borrowers with equated monthly instalments (EMIs) are likely to remain stable in the short term.
• It will also spur corporates to proceed with investments, infuse credit growth, and push consumption, which will help economic growth.