Effectiveness of tightening interest rates as a

monetary tool on growing inflationin INDIA

Presented by BHAVESH BHANSALI

What is Inflation??

A sustained increase in the general level of prices so that a given amount of moneybuys less and less.

Causes of Inflation

Inflation due to rise in real aggregate Demand.

Inflation due to contraction in Aggregate Supply.

What is Monetary Policy??

It is the process by which the central bank or monetary authority of a country regulates

The supply of money Availability of money and Cost of money or rate of interest

Monetary policy & Inflation

When inflationary pressures build up: raise the short-term interest rate (the policy rate)which squeezes consumption and investment.

Monetary Policy Instruments

Bank rateCash Reserve RatioStatutory Liquidity RatioRepo rateReverse Repo rate

Bank rate

Rate at which Central Bank lends money to commercial Banks.

Any increase in Bank rate results in an increasein interest rate charged by Commercial banks which in turn leads to low level of investmentand low inflation

Cash Reserve Ratio

It refers to the cash which banks have to maintainwith RBI as certain percentage of their demand and time liabilities.

An increase in CRR reduces the cash withcommercial banks which results in low supply of currency in the market, higher interest rate and low inflation

Statutory Liquidity Ratio

It is the percentage of total deposits commercial banks have to invest in government bonds and other approved securities.

Objectives of SLR To restrict expansion of Bank credit To augment bank’s investment in government securities To ensure solvency of banks

REPO RATE

Repo rate is the interest rate at which the central bank lends funds to banks against pledging securities

It enables collateralized short term borrowing and lending through sale/purchase operations in debt instruments

REVERSE REPO RATE

The rate at which RBI borrows money from the banks (or banks lend money to the RBI) is termed the reverse repo rate.

If the reverse repo rate is increased, it means the RBI will borrow

money from the bank and offer them a lucrative rate of interest.

As a result, banks would prefer to keep their money with the RBI (which is absolutely risk free)

instead of lending it out (this option comes with a certain amount of risk).

STEPS TAKEN BY RBI TO CONTROL INFLATION

STEPS TAKEN BY RBI TO CONTROL INFLATION

RBI has raised the policy rate by 0.25 as it kept its focus on controlling the inflation.

RBI eased the liquidity through a reduction in the marginal standing facility rate, at which banks borrow from RBI by 0.75 basis to 9.5%

Increased the repo rate by 0.25 basis points to 7.5% from 7.25%.

Keeping the CRR unchanged, RBI reduced the minimum daily maintenance of CRR from 99% to 95% to induced liquidity in the system.

CHANGE IN INTEREST RATE IN INDIA