Class 12 | Unit 5 RESERVE BANK OF INDIA REGULATION ON BANKS | Banking

Banking /class 12 

Unit 5
 RESERVE BANK OF INDIA REGULATION ON BANKS


Instruments of Monetary Policy

Qualitative Instruments

These are indirect tools used by central banks to influence the economy through qualitative measures.

1. Moral Suasion
   - Definition: The central bank persuades or advises banks to follow certain policies or guidelines.
   - Impact: Helps in achieving desired monetary outcomes without direct intervention.
   - Examples: Advising banks to control credit growth or limit loans to certain sectors.

2. Selective Credit Controls
   - Definition: Specific measures targeted at certain sectors or types of credit.
   - Impact: Aims to regulate the flow of credit in particular areas of the economy.
   - Examples: Imposing higher margin requirements for loans against stocks or real estate.

3. Direct Action
   - Definition: Directives or policies imposed by the central bank to control the banking sector.
   - Impact: Ensures compliance with monetary policies through enforcement.
   - Examples: Issuing directives to limit the amount of credit a bank can extend.

Quantitative Instruments
These are direct tools used by central banks to control the overall money supply and liquidity in the economy.

1. **Open Market Operations (OMOs)
   - **Definition**: The buying and selling of government securities by the central bank.
   - **Impact**: Controls liquidity in the financial system and influences interest rates.
   - **Examples**: Purchasing securities to inject money into the economy or selling them to absorb excess money.

2. **Policy Rates (Interest Rates)
   - **Definition**: The rate at which central banks lend to commercial banks.
   - **Impact**: Directly affects borrowing costs for consumers and businesses.
   - **Examples**: Changes in the repo rate, discount rate, or federal funds rate.

3. **Reserve Requirements
   - **Definition**: The minimum reserves a bank must hold against deposits.
   - **Impact**: Regulates the amount of money banks can lend out, influencing the money supply.
   - **Examples**: Lowering reserve requirements to increase lending or raising them to reduce money supply.

4. Quantitative Easing (QE)
   - Definition: Non-traditional monetary policy tool where the central bank purchases longer-term securities to increase the money supply.
   - Impact: Lowers long-term interest rates and encourages investment and spending.
   - Examples: The Federal Reserve's QE program during the 2008 financial crisis.

These instruments, whether qualitative or quantitative, are essential tools for central banks to manage the economy, control inflation, and promote economic growth. By using these tools effectively, central banks can influence various economic variables to achieve desired outcomes.

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