Environment Management

Course Code MB010107

Module 3

Macro Economic Environment

 Macro Economic Policy
Macro economic issues:-
• Economic Growth
• Employment and Unemployment
• Inflation and price stability
• Business Cycle
• Economic Stability
• Exchange rate stability
Macroeconomic policy aims to provide a stable economic
environment encouraging strong and sustainable economic
growth.
Overall stability in the economy
the Economic Activities are controlled by

Fiscal Policy Monetary Policy

• Fiscal policy refers Monetary policy is the

to the policies of macroeconomic policy
government laid down by the
central bank
Government
Credit Control/ Money
Expenditure and
supply and liquidity
Revenue
 Fiscal policy
• Fiscal policy refers to the policies of government about government
spending and tax policies to influence economic conditions,
including demand for goods and services, employment, inflation,
income inequalities and economic growth.
J. M. Keynes-The GreatDepression 1930s -Positive government
intervention-
• "The government should pay people to dig holes in the ground
and then fill them up.“
• Fiscal policy -For stabilization of the economy on a growth path
• i.e, revenue collection and expenditure to influence the economy.
• when the government changes the levels of taxation and
government spending, it influences
• aggregate demand and total output
• Savings and Investment
• Income distribution

Government Expenditure will lead to- Employment and

Consumption
 Objectives of the Fiscal policy

• To mobilise adequate resources for financing various programmes

and projects adopted for economic development.
• To raise the rate of savings and investment for increasing the rate of
capital formation.
• To promote necessary development in the private sector through
fiscal incentive.
• To arrange an optimum utilisation of resources
• To control the inflationary pressures in economy in order to
economic stability.
• To remove poverty and unemployment
• To attain the growth of public sector for attaining the objective
of socialistic pattern of society
• To reduce regional disparities
• To reduce the degree of inequality in the distribution of income
and wealth
 Types of Fiscal Policy
• 1. Expansionary fiscal policy
• involves government spending exceeding tax revenue, As a
relief from recession
• put more money into consumers' hands, so they spend more
• It stimulates economic growth.
During this phase
Government Expenditure ↑; Taxes↓; ↑ Purchasing power of
people i.e, more disposable income; ↑ Aggregate Demand to
right
• Hence stimulates economic growth
• 2. Contractionary fiscal policy
• occurs when government spending is lower than tax revenue
• That's because its goal is to slow economic growth.
• Reason is to stamp out from inflation.
During this phase
Government Expenditure ↓; Taxes ↑; Purchasing power of
people ↓ i.e, less disposable income and reduction in
consumption; Aggregate Demand shifts to left
Hence, control Inflation
o Macro economic changes
o provision inserted in the income tax act with effect from fiscal year 2019-20,
that allows any domestic company to pay income tax at the rate of 22% subject
to condition they will not avail any incentive or exemptions.
o Manufacturing companies set up after October 1 to get option to pay 15% tax.
Effective tax rate for new manufacturing firms to be 17.01% inclusive of
surcharge & tax.
o CSR 2% spending to include government, PSU incubators and public funded
education entities, IITs
Economic Stabilization
(Two ways of managing fiscal policy)
• Discretionary fiscal policy
• Deliberate changes in the govt expenditure and tax in order to
control unemployment and inflation

• Automatic Stabilizers
Automatic Stabilizers
• Automatic stabilizers are changes in fiscal policy that
stimulate aggregate demand when the economy goes into a
recession without policymakers having to take any deliberate
action.
• An automatic stabilizer is an expenditure programme or tax
law that automatically increases expenditures (or decrease
taxes) when an economy enters a recession and
automatically decreases expenditures (or increases taxes)
when an economy enters a period of inflation
• Automatic stabilizers include the tax system and some forms
of government spending.
 Instruments of fiscal policy in India
• 1. Taxation Policy
• choice by a government as to what taxes to levy, what amount , to whom
etc
• 2. Public Expenditure Policy
• Spending for collective needs and wants, infrastructure, etc
• 3. Public Debt Policy
• total borrowings which includes such items as market loans, special bearer
bonds, treasury bills and special loans and securities issued by the Reserve
Bank. It also includes the outstanding external debt
• bridge the gap temporarily between current revenue and current
expenditure
• 4. Deficit Financing Policy
• practice in which a government spends more money than it receives as
revenue, the difference being made up by borrowing or new funds
5. Budget
• Budget is a statement of the financial plan of the
government.
• Shows the income & expenditure of the government during a
financial year (1stApril to 31st March)
• The governments prepare their own respective budgets
(Union Budget, State Budget and Municipal Budget)
containing estimates of expected revenue and proposed
expenditure.
Union Budget 2019-20
 Revenue Budget and Capital Budget
Revenue Receipt- collected by way of taxes & other receipts.
Revenue expenditure is the expenditure incurred for the routine activity
Capital receipt-government assets or liability.
Capital expenditure i-expenditure which is incurred for creating asset.

• Thus, expenditure on land, machines, equipment, irrigation projects, and

expenditure by way of investment in long term physical or financial
assets are capital expenditure.
 Types of Government Budget
• Balanced Budget
• The governments total expenditure is equal to its total revenue
• Surplus Budget
• The governments total expenditure is less than to its total revenue
• Deficit budget
• The governments total expenditure is more than to its total
revenue
Government debt
• Government debt (also known as
• Public debt,
• National debt
• and Sovereign debt)
• is the debt owed by a central government
Internal
Borrowing from citizens
Borrowings from financial
institutions
Loans from central/ Commercial
bank
External
International Money Market
Currency from foreign
government
Loans from foreign financial
institutions
Problems in the fiscal policy
• Lags in fiscal policy
• Problems in tax policy
• Burden of public debt
• The dangers of deficit financing
 Monetary Policy
• The monetary and credit policy is the policy statement,
traditionally announced twice a year, through which the RBI
seeks to ensure a price stability in the economy
• Monetary policy is primarily concerned with the management
of money supply in a growing economy and managing the rate
of growth of money supply per period
• RBI-Monetary policy refers to the use of monetary instruments
under the control of the central bank to regulate magnitudes
such as interest rates, money supply and availability of credit
with a view to achieving the ultimate objective of economic
policy.
How Money supply, Interest rate and Credit influence the
economy?
In the case of
larger money supply ~ lowers interest rates and
fall in money supply ~ increases interest rates
Interest rates fall when the money supply increases i.e, the
more plentiful the supply of money, the easier it is for
businesses and individuals to get loans from banks
When Interest rate is low ~ stimulates investment expenditure
and vice-versa
*Too much of money supply will lead to inflation
History of monetary policy in India since independence
http://www.igidr.ac.in/pdf/publication/WP-2011-018.pdf
Objectives of the monetary policy
• Maintain Price stability as a pre-condition for sustainable
growth
• Flexible inflation rate
• Maximum feasible output
• Ensuring adequate flow of credit to the productive
sectors of the economy to support economic growth
• High rate of economic growth
• Full employment
• Greater equality in the distribution of income and wealth
• Healthy balance of payments
Types of Monetary Policy
• How the central bank is controlling the supply of money
 Expansionary Monetary policy
 Contractionary monetary policy
Expansionary Monetary policy
• Liquidity of money or increase in money supply in the
economy
• ↓Interest rate ; ↑ Investment;
• ↑ employment opportunity; ↑ Consumption
• Hence, stimulate Economic Growth
Contractionary monetary policy

Absorb the Liquidity or decrease in money supply from

the economy
↑ Interest rate ; ↓ Investment;
↓ employment opportunity; ↓ Consumption
Hence, regulate Inflation
i.e, if people have less money in their hand, Demand for
goods decrease and control inflation
Instruments of monetary policy

Key Policy rates and Reserve requirements

 Instruments of monetary policy
• Repo (Re-Purchase Option) Rate:
• Repo rate is the rate at which the central bank of a country
(Reserve Bank of India in case of India) lends money to commercial
banks in the event of any shortfall of funds.
• In the event of inflation, central banks increase repo rate as this acts
as a disincentive for banks to borrow from the central bank. This
ultimately reduces the money supply in the economy and thus
helps in controlling inflation.
• Repo rate is used by monetary authorities to control inflation.
• Reverse repo rate
• is the rate at which the central bank of a country (Reserve Bank of
India in case of India) borrows money from commercial banks within
the country. It is a monetary policy instrument which can be used to
control the money supply in the country.

• Bank rate policy:

• i.e, the rate of interest which a central bank charges on its loans and
advances to a commercial bank
• Rate of interest at which the central bank rediscounts its approved
bills of exchange; (commercial bank borrows from central bank
depending on the rate)
• Liquidity Adjustment Facility (LAF):
• A liquidity adjustment facility (LAF) is a tool used in
monetary policy that allows banks to borrow money through
repurchase agreements. LAF includes both repos and reverse
repo agreements.
• Repo rate is Liquidity injection
• Reverse Repo rate is Liquidity absorption
• Open Market Operations:
• It purchases Treasury securities to increase the supply of money
and sells them to reduce the supply of money
• purchase or sale of any securities by the central bank, such as the
government securities, bankers acceptances or foreign exchanges;
(control credit –sell securities) (buy securities –increase credit-
money supply)
• aim of a government bond is to support government spending and
liquidity
• Reserve requirement changes:
• under this policy the central bank requires the commercial
banks to maintain a stated percentage of their deposits as
reserves
• CRR and SLR
• Cash Reserve Ratio (CRR)
• is a specified minimum fraction of the total deposits of customers,
which commercial banks have to hold as reserves either in cash or as
deposits with the central bank. CRR is set according to the
guidelines of the central bank of a country.
• The aim here is to ensure that banks do not run out of cash to meet
the payment demands of their depositors. CRR is a crucial monetary
policy tool and is used for controlling money supply in an economy.
• At the end of every single day
• No interest is paid
• Statutory Liquidity Ratio:
• Apart from Cash Reserve Ratio (CRR), banks have to maintain a
stipulated proportion of their net demand and time liabilities in
the form of liquid assets like cash, gold
• Banks have to report to the RBI every alternate Friday their SLR
maintenance, and pay penalties for failing to maintain SLR as
mandated.

• SLR : can be raised up to 40 %

• Marginal Standing Facility (MSF):
• Refers to the rate at which the scheduled banks can borrow
funds overnight from RBI against government securities.
MSF is a very short term borrowing scheme for scheduled
commercial banks.
• Penal rate at which banks can borrow money from the
central bank over and above what is available to them
through the LAF window
 Indicator Current rate
Policy Rate
Policy Repo Rate : 5.40%
Reverse Repo Rate : 5.15%
Marginal Standing Facility Rate : 5.65%
Bank Rate :5.65%
Reserve rate
CRR : 4%
SLR : 18.75%

https://rbi.org.in/home.aspx
Limitations/Factors affecting monetary
policy
• The time lag
• Problems in forecasting
• Non-banking financial intermediaries
• Underdevelopment of money and capital market
• Contradictions in objectives
• Lack of coordination with the monetary and fiscal policy