B.Com Ist Year Monetary Policy Long Short Question Answer Notes

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Monetary Policy

Q.20. What do you understand by Monetary Policy ? Define its objectives and importance. (Rohilkhand, 2006)


The monetary policy is concerned with regulation and control of the quantity of money and credit for attaining certain objectives such as price stability, exchange rate stability, full employment or economic development etc. In other words, it is an instrument used by the Central Bank to regulate the supply of money and credit for maintaining stability in the value of money.

According to Prof. Hary G. Jchnson, “Monetary policy is meant by that policy through which the central bank regulates the supply of money for achieving the objectives of general economic policy.”

According to Pal Einzing, “The monetary policy includes all monetary decisions and measures whose objective is to affect monetary system.”


A good monetary policy is that policy which ascertains stability in price-level, stability in exchange rates, economic development, economic stability and employment. Thus, monetary policy aims at achieving the following objectives:

(1) Price Stability : According to classical economists, price stabilisation is the major objective of monetary policy. The price stability aims at preventing changes in the general price level and thus, stabilising the value of money. Violent price fluctuations create serious instability in the economy and give birth to complicated problems like inflation and deflation in the economy… suitable monetary policy is one which would control the influence of such economic fluctuations.

(2) Exchange Rate Stability: Exchange rate stability is one of the main objective of the monetary policy. When there is exchang rate fluctuation, it will become difficult for the government protect the economy. The exchange stability also help to avo rampant speculation in foreign exchange.

(3) Attainment of Full Employment: The most desira policy, these days is to maintain full employment without inflation.

The policy of full employment can be pursued through moneta measures as they can help in maintaining the rate of savings and investment at a level which would ensure full employment. A cheap and would depend on the behaviour of the banking system, as a whole, and a general economic climate which could inspire investment in long-term projects.

(4) Economic Development : Achieving a high rate economic growth is the main objective of monetary policy. Economic growth refers to the rate of expansion of the national income or cola volume of production of goods and services of a country. A monetary, policy directed towards rapid growth should ensure adequate flow or money into channels of desirable long-term investment in infrastructure building and in basic and key industries through variable interest rates, and selective measures of credit liberalisation or credit control.

(5) Equilibrium in Demand and Supply of Money : The monetary authority should keep the equilibrium between aggregate money demand on the one side and the aggreagte supply of goods and services on the other side. If the aggregate money demand exceeds the supply of goods, the monetary authority should apply a restrictive policy to remove the disequilibrium.

(6) A Policy of Economic Equality : There are certain measures such as selective credit control, variable interest rates and margin-requirement which can promote a suitable price investment structure in a country. This might not only ensure the desired economic growth but also promote a measure of economic justice. The withdrawal of credit from those who are likely to hoard scarce commodities for speculative purpose and extension of concessional credit for agricultural and industries might promote greater economic equality by promoting the interest of small entrepreneurs and less privileged sections of the community.

(7) Suitable Interest Rate : It is very essential to have a suitable interest rate for the long-term and short period. This rate can be determined through monetary policy of the country. The size of investments and savings can be increased through adopting suitable interest rates in the country. 

Q.21. Discuss the main instruments which are used by the

Reserve Bank of India for credit control.


What do you understand by the instruments of Monetary Policy ? Also evaluate the monetary policy of Reserve Bank.

Ans. Reserve Bank used several methods for credit These methods are known as instruments of monetary mis Following methods are used by the Reserve Bank for credit contol :

(1) Bank Rate : The bank rate is the oldest instrument monetary policy, Bank rate is the rate at which the Central Rem rediscounts eligible bills. However today, the term bank rate is on in a broader sense and refers to the minimum rate at which the Central Bank provides financial accommodation to commercial banks in the discharge of its function as the lender of the last resort.

To increase the bank credits, Reserve Bank reduces the bank rate and for decreasing the bank credit, it increases the bank rate. On October 1999, bank rate was 12% while in the monetary policy of 2003-04, it is reduced from 6.25% to 6%. Bank rate is 8.75% with effect from October, 2013.

(2) Open Market Operations : Open market Operations refer broadly to the purchase and sale by the Central Bank of a variety of assets, such as foreign exchange, gold, government securities and even company shares. In India, however, in practice, they are confined to the purchase and sale of government securities.

Under the Open Market Operations, the Central Bank seeks to influence the economy either by increasing the money supply or by decreasing the money supply.

To increase the money supply, the Central Bank buys securities from commercial banks and public. When the Centra Bank purchases securities from commercial banks, the increase their reserves might result in a multiple credit creation. A sale securities by the Central Bank has the opposite effects.

(3) Changes in Cash Reserve Ratio (CRR) : Commercio banks in every country maintain a certain percentage of deposits in the form of balances with the Central Bank. The Bank has the power to vary this reserve requirement and var in the reserve requirement affect the credit creation capa commercial banks. To decrease the quantity of credit, Reser increases the CRR and to increase credit, this ratio “. decreased. In 1993, CRR was very high at 14%. CRR was » down to 4% with effect from February, 2013.

B.Com Ist Year Monetary Policy Long Short Question Answer Notes

(4) Statutory Liquidity Ratio (SLR): Commercial be required to keep part of their assets in the form of government securities and other approved securities to depositers. Central Bank can vary the ratio through its  administrative powers. Central Bank can check inflation through

the mechanism of increasing the SLR and thereby reducing lendable resources with the banks. Every one percent change has the power to hange the banks lending power by Rs. 16,785 crore on the basis of deposits on March, 31, 2004. Usually SLR has been ranging between 10% to 39%. SLR was reduced to 23% with effect from August, 2013.

(5) Selective Credit Regulation : Selective credit control refers to regulation of credit for specific purposes or branches of economic activity. It aims to discourage such form of activity as are considered to be relatively inessential. In India, such controls have been used to prevent speculative hoarding of commodities like foodgrains and essential raw materials to check an undue rise in their prices.

The techniques of selective credit controls used generally are:

(a) Minimum margins for lending against specific securities;

(b) Ceilings on the amounts of credit for certain purposes; and

(c) Discriminatory rates of interest charged on certain types of advances.




An evaluation of the monetary policy followed by the Reserve Bank should point out to what extent the objective of the policy has been achieved. The policy has twin objectives :(i) assisting economic growth by the supply of credit, and (ii) Controlling credit expansion.

As for the first objecive, the Reserve Bank can justly claim some creditable achievements. It has set up institutions for the supply of credit to agriculture and industry. But Reserve Bank could not get success in removing inflationary pressures. The main limitations of monetary policy in India are as follows:

(1) Inappropriate Financial System : The monetary casures prove effective only in a well-organised, flexible and tegrated economy and not in an under-developed and loose omy like ours which suffers from chronic shortages of all types. is why, the Reserve Bank has not been able to check inflation.

(2) Wide Circulation of Black Money : Wide circulation of Money also creates obstacles in the efficacious of monetary y. The people with black money, and almost all business and corrupt officials have enough of it, are out to offer any price. The S unable to control these offers.

(3) No Control on Non-Banking Institutions : The RbI has no control over indigenous bankers and most non-banking financial institutions. There activities can neutralise the efforts of the Reserve Bank.

(4) Lack of Well-organised Monetary System : The v part of the Indian market is still unorganised and functions outside the organized monetary system. Even within the organised sector the organised monetary system. Even withi the medium of economic transactions is not the cheque but cach which make difficult the use of quantitative and qualitative monetary controls.

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