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Rbi Credit Policy

Rbi Credit Policy

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Published by: VIKAS DOGRA on May 16, 2010
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RBI is established on 1 April 1935 under Reserve Bank Of India Act 1934

To maintain price stability and ensuring adequate flow of credit in the economy.

Role of RBI in Economic Development
1.) Development of banking system 2.) Development of FI 3.) Development of backward areas 4.) Economic growth 5.) Proper interest rates structure Role of RBI 1.) Note issuing authority:- The RBI has the sole right of issuing currency notes which is its basic function too, other than one rupee notes and coins because these are issued by govt of India. 2.) Govt Banker:- The RBI is the banker to the central as well as to the state govt.It provides all banking services such as acceptance of deposits,withdrawl,making payments, collecting payments, transfer of funds and management of public debt.

3.)Act as a bankers bank:-It is called bankers bank because it holds a part or whole reserve with the RBI so in time of need the bank borrows funds from RBI.RBI is the ultimate source of money and credit in India 4.) Act as a supervising authority:- The RBI has vast powers i.) to issue licenses for the establishment of new banks ii.) to issue licenses for the setting up of new bank branches iii.) to inspect the working of bank branches in India as well as abroad in respect of their organization set up, branch expansion, mobilization of deposits, investment iv.) to control methods of operation of banks vi.) to control appointments, termination of chief executive and chairman of private sectors. 5.) Exchange control:-Essential function of RBI is to maintain stability of the external value of the rupee and for this task of RBI is I.) to choose the exchange rate system and fix or manage the exchange rate between the rupee and other currency ii.)to interact with monetary authorities and other countries and with international FI such as IMF,ADB,World Bank 6.) Promoter of Financial system:- RBI has rendering its services which have strengthen the country banking and financial structure

India is suffering from a number of economic problems
1.) Inflation( Fall in the purchasing power of money) Supply stock inflation caused due to adverse change in price of raw material 2.) Cut throat competition 3.) Capital inflows in the market Therefore RBI has announced its new credit policy by announcing hike in key rates to fight Inflation without affecting economic growth to solve the above problems. The RBI is confident that inflation will be reduced to 5.5 percent because inflation and the economy both influence all the major macro economic indicators of a country i.eConsumer price indices, Industrial production, Capital Investment, Agricultural production,GDP, Export, Import, debt and also affects the living standards of the people .Here some are the highlights and significant measures of the new Credit Policy 2010-11 presented by Reserve Bank of India in order to tackle the spiraling inflation.

1.) Repo rate has been increased from 5.00% to 5.25%: Repo Rate It is the short-term rate at which the Reserve Bank of India (RBI) lends cash to banks or Repo rate is the rate at which our banks borrow rupees from RBI. This facility is for short term measure and to fill gaps between demand and supply of money in a bank .A reduction in the repo rate will help banks to get money at a cheaper rate. 2.) Reverse Repo rate has been increased from 3.50% to 3.75%: Reverse Repo Rate Reverse Repo rate is the rate which is paid by RBI to banks on Deposit of funds with RBI. 3.) Cash Reserve Ratio increase by 25 basis points from 5.75% to 6.00%. Cash Reserve Ratio CRR is the proportion of deposits banks must keep with the Reserve Bank in cash or Cash reserve Ratio (CRR) is the amount of Cash (liquid cash like gold) that the banks have to keep with RBI. 4.) Annual inflation rate projection at 5.5 percent. 5. )Money supply to grow at 17 percent in 2010-11.

The other highlights of the monetary policy are as follows
1.Bank rate unchanged at 6 percent . 2. Statutory Liquidity Ratio (SLR) has been left unchanged at 25.00. Statutory Liquidity Ratio SLR is that amount which a bank has to maintain in the form of cash, gold or approved securities or SLR is the proportion of deposits that banks must invest in government securities. 3.)RBI projected GDP to grow 8% for the year 2010-11 4.)WPI inflation for march 2011 is expected to be placed at 5.5% 5.) Money supply growth is projected 17% and non food credit is anticipated to grow by 20% in 2010-11 6.) RBI has focussed to maintain liquidity in system to complete the govt borrowings programmes. The move has been taken to control the inflation by increasing the interest rates without choking growth. This policy believes that it would bring many changes to sustain inflation because inflation now a days is around 10% and economy is growing at 7% only.

Thus, Credit policy mainly focus on:1.) Rise in interest rates to tone down the inflation 2.) To maintain liquidity in the market 3.) To tighten the money supply so that inflation rate come down to single digit in next 6 months. The most well known measures of Inflation are the CPI which measures consumer prices, and the GDP deflator, which measures inflation in the whole of the domestic economy India's food inflation rate rose to 17.65 per cent in the year to April 10 from 17.22 per cent while fuel prices were up 12.45 per cent from a year ago Government has been concerned about the rising prices of food products after the worst monsoon in more than three decades last year and floods in some states adversely affected the Kharif crop ostensibly because of bad monsoon rains last year and lower agricultural output. Some observers have suggested however that the high rate is due to speculation and poor infrastructure India’s annual rate of inflation, based on the wholesale price index, rose to 9.89 percent in February from 8.56 percent in the previous month Indian economy is showing signs of recovery since Q3 FY09 led by fiscal and monetary measures taken by government and RB I.

The deficient monsoon rainfall and drought conditions in several parts of the country have accentuated the pressure on food prices, pushing up the overall inflation rate – both of the WPI and consumer price indices (CPIs By increasing the Repo rate and CRR, liquidity might be freeze for shorter period, but it will increase cost of credit and output which inflates the GDP value. Inflation in non food manufactured products increased from –o.4 % in November last to 4.7 percent in March this year. According to the RBI, three major uncertainties could the outlook for inflation: First - The prospects and behavior of the monsoon this year Second - The continuous volatility in crude prices which affect almost all sectors of the economy. Third - Evidence of demand side pressures building up It is believed that the new policy would bring many changes and the primary focus of the RBI’s policy would be how quickly it could bring down the inflation, especially non food inflation.

EFFECTS The economy can be influenced easily by interest rates. When interest rates are high, people do not want to take loans out from the bank because it is more difficult to pay the loans back, and the number of purchases of cars and homes goes down. The effects of a lower interest rate on the economy are very beneficial for the consumer. When interest rates are low, people are more likely to take loans out of the bank in order to pay for things like houses and cars When interest rates increase, though, foreign investment can increase because people outside of the country want a larger return for their investment and they are more likely to get it in a state of high interest rates. This causes more demand for the dollar, driving up its value in the international market. The opposite happens, though, when the interest rates are decreased. Interest rates control the flow of money in the economy. High interest rates curb inflation, but also slow down the economy. The strong rupee appreciation has already started worrying the export sector There is no doubt that recovery is now firmly in place .other effects 1.) Effects on production. 2.) Effect on income distribution. 3.) Effect on consumption and welfare

How RBI new credit policy affects the economy 1.) Increase in interest rates have a impact on the economy, the common man is badly affected by high inflation rate and low return on his savings 2.)Increase in the cost of borrowings, it also affects the economy because loans for various purposes become expensive. 3.)Increase in interest rates increases the value of dollar. 4.) Increase in interest also affects consumers because they cannot be able to take high loan facility. 5.) High interest increases the govt debt interest payments. Because govt is dependent on borrowings from market 6.)Reduce confidence i.e. if there is rise in interest rates it discourages investments. 7.) In India interest rates have been slowly hiked to contain inflation which attracts foreign investors to invest their funds but this hike in interest rates may further increase the dollar inflow which lead to fall in the value of dollari.e less than Rs.44 which ultimately affects our exports. If exports are low then industrial growth also decline because 12% of production is exported.

Impact analysis
1.) GDP growth:-RBI projection of 8% appears to be attainable only if monsoon is normal this year and industry continuous to grow rapidly. In 2009-10 GDP growth was stable despite monsoon failure due to resurgence in industries. So RBI credit policy says that industries have to register a high growth rate this year to propel push) the economy forward 2.)Inflation:- RBI projection of 5.5% WPI for FY 2011 appears to be very moderate and will be supported by two phenomena i.) High base year effect ii.) Decline in food prices Two components of WPI is under pressure this year i.e. manufactured goods prices and fuel 3.) Liquidity:- The surplus funds available with the bank can be used to finance the govt borrowings programmes(1.19 lakh cr) and for this RBI is planning to raise 2.87 lakh cr during the first half year. Last year during first half 43% increase in deposits were seen while 20% of credit

was ascertained. If same is happen in this year then it would have great pressure on the liquidity. 4.) Interest rates:- The impact of RBI credit policy on interest rates is seen both negative as well as positive. Positive in the sense that RBI has raised interest to fight inflation and high liquidity in the market but in its another way interest rates has a negative impact because the consumer have to pay more for taking loan. 5.) Equity market:- The hike in rates of 25 bps across repo,reverse repo,CRR has been welcomed by the equity markets when the policy has been announces because the hike in rates will definitely increase the cost of funds for banks and same is unlikely to be passed on to the consumers immediately results in weak credit growth and ample liquidity in the banking system


TRENDS IN Monetary indicators
April July Oct 09 09 09 18.9 5 5 3.5 24 28.1 20 5 4.75 3.25 Jan 2010 16.5 5 4.75 3.25 18.9 5 4.75 3.25

April 2010 16.8 6 5.25 3.75 25 20.1

1.) Money supply 2.)CRR 3.) Repo rate 4.)Reverse repo rate 5 SLR 6.)Industry

24 25 25 21.2 17.9 14.2

Macro Indicators 1.) GDP 2.)Inflation 3.)Money Supply 4.) Non Food Credit Growth FORECAST 8% 5.5% 17% 20%

1.) The repo and reverse repo rates should be reduced to inject high liquidity in the market. 2.) Likewise interest rates and lending rates needed to be revised again and lowered which help manufacturer as well as industries to reduce their cost which results in more exports.

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