Economy

1.How to kick start GS preparation?

2.How to prepare Economy?
3.Banking: Monetary policy
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 7 Pillars of Economy for UPSC
Pillar #1: Basics of Micro & Macro & Indian
Economy

Class11 Class12: MACRO

• Types of Class12- MICRO • GDP, NNP
Economies Selected only • National
• LPG Mrunal.org/econo income
reforms my • Money &
 7 Pillars of Economy

2. Banking- 3.Fiscal 4.
Finance Policy International
• Monetary Policy • Budget, • BoP, CAD
• Banking Sector Taxation-GST • WTO & other
• Capital Market • Subsidies Org.
• Fiscal Deficit • Policies
 After economic survey is out

5. Sectors of 6.Infrastructu 7. HRD

Economy re • Skill
• Agriculture • Energy Development
• MSME, Industries • Transport • Poverty line
• Service sector • RUR-URBAN • Weaker
• GDP, Inflation sections
 Type #1: 7 Pillar focus
CSAT, CAPF, CDS
RBI –Grade “B” Officer Mains
GPSC Mains GS-Economy; similar
state service exams
 Type #2:
firefighting Focus area
sufficient
IBPS: PO/MT, Clerk, 1. Banking-finance
Specialist (Theory current)
SBI Clerk/ PO 2. Budget, Schemes
RBI assistant 3. Current: Business-
Insurance AO, GK, PIN
Assistants 4. Then focus on
SSC (+ theory Maths-Reasoning-
focus) DI-english
 Non-UPSC UPSC
8th Pillar: Persons in  PIN not asked. Hardly
News (PIN), 2-3 MCQs in CSAT-
BusinessGK 2014
economy focus on  Economy Focus on
Facts  Principles, Definitions
Figures  Cause-consequence
Dates  Jurisdiction, features
Names  Pro-Anti
Numbers
Not Essential for Economy
Economy: Dutt Sundaram, Uma Kapila

Budget Speech
Economic Survey
Newspaper
Source of preparation

1.NCERT 11, 12
2.Lecture +
Mrunal.org
3.Budget
+Survey
(10 Questions in CSAT-14)
(10 Questions in CSAT-14)
4.Hindu/IndianExpr
ess
Today’s topic:
Banking ►
Monetary Policy
1. Quantitative |
Qualitative tools
2. CRR, SLR, OMO
3. Repo, Reverse
Repo,
4. MSF, LAF,
 Before money was invented

Double
Coincidence
Of wants
2 kg 500 gms
Birth & Evolution of money
 Supply Demand

1 kg = Rs.100

Supply Demand
 Inflation
Demand Demand

1 kg =
Rs.1000
Supply
Demand Demand
 Inflation: ▲ ▲ supply
Demand Demand

1 kg =
Rs.100
Supply
Demand Demand
Reduce demand by ▼ money supply
Demand Demand

1 kg =
Rs.100
Supply
Demand Demand
 Combat Inflation Deflation Combat

Reduce Money ▲ ▲ Money supply

supply
Easy Money policy
Tight Money
Cheap money
policy
policy
Dear money
policy
 Monetary Policy: Instruments?
Quantitative Qualitative

1. Reserve Ratios 1. Margin / LTV

(CRR, SLR) 2. Consumer Credit
2. OMO: Open market control / Down
operations payment
3. Rates (Repo, RR, 3. Rationing
Bank, MSF, LAF) 4. Moral Suasion
5. Direct Action
 Reserve Ratios

1.Cash Reserve Ratio (4%)

2.Statutory Liquid Ratio
(21.5%)
 Reserve Ratios
Pay 0-4-9% Pay 10-15-18%

Depositors Borrowers
CRR: 04%
SLR: 21.5%
Total: 25.5%
Liabilities of a Bank

Demand
Liabilities

Time
Liabilities
 Reserve ratio counted on NDTL
Demand Liabilities Time liabilities

Current Account  Fixed deposits (FD)

(CA)  Recurring deposits
Savings Account (RD)
(SA)  Cash certificates
Demand Draft  Staff security
~8,000 Billion Rs. deposits
 ~78,000 Billon Rs.
 1/1/2015
Depositors
Deposited
+120 Cr.

Took out
20 Cr.

Net Demand & Time Liability (NDTL)

120-20=100 Crores.
Time: FDRD
NDTL (100 Crore)
Demand: CASA

CRR SLR
4% 21.5%

Cash, Gold
Can’t lend RBI approved
No profit securities
 Cash Reserve Ratio (CRR)
Deposit Examples • All Banks
Time FDRD • Penalty
Deposit • No profit. Except
Demand CASA 1999.
Deposit • Right now 4%
NDTL +100 cr. • IIM-A Prof D'Souza
report: allow gold-
Reserve forex investment
ratio • RBI said No, due to
CRR (-) 4% volatility
[no profit]
 Statutory Liquidity Ratio
Deposit Examples • All banks
Time Deposit FDRD • In Cash, gold, RBI
Demand Deposit CASA approved securities
Net Demand and +100 cr.
Time Liabilities • Some “profit”.
(NDTL)
• Right now 21.5%
Reserve
CRR (-) 4 [no profit]
SLR (-) 22 [some
profit]
Money left =74 cr.
with bank
 Fortnight lag

Fortnight Fortnight
Friday Friday Friday
NDTL
4 cr. CRR
100 Cr.
21.5 cr. SLR
 Reserve Ratios

1.What is NDTL?
2.What are SLR and CRR?
3.How to use them against inflation
& deflation
Cyclic fluctuation: Inflation

CRR, SLR: 0%
Loan: 10%
10% of 2 crore
=20 lakh rupees

To combat inflation:
REDUCE Money supply
Cyclic fluctuation: Inflation

CRR, SLR: 50%

Loan: 10%
10% of 1 crore
20% of 1 crore
=10 lakh rupees
=20 lakh rupees

To combat inflation:
REDUCE Money supply
Hike in Bank Loan Interest Rates

10%
20%

50,000/-
48,000/-
Hike in Bank Loan Interest Rates

10%
20%
 Inflation Deflation
RBI ▲ CRR/SLR  RBI ▼ CRR/SLR
Banks left with less  Banks are left with
money to lend
more money
▲ interest rates to keep
Profit margin same  They ▼ interest
People borrow ▼ rates to get new
demand ▼ clients
Prices ▼  People borrow ▲
= Inflation controlled  Demand ▲
 = Price ▲
Monetary Policy: Quantitative Tools: Reserve Ratios

Inflation
fight
HOW? Tight |
Dear
CRR, ▲▲▲
SLR ▲▲
Monetary Policy: Quantitative Tools: Reserve Ratios

Inflation Deflation
fight fight
HOW? Tight | Easy |
Dear Cheap
CRR, ▲▲▲ ▼▼▼
SLR ▲▲ ▼▼
 Mock Question
Find correct statement(s)?
A. To combat inflation, RBI should
pursue Cheap money policy.
B. To combat deflation, RBI should ▲ ▲
Statutory liquidity ratio (SLR)
C. Both A and B
D. Neither A nor B

1. Skip 2. Attempt 3.
 Mock Question
Find correct statement(s)?
A. To combat inflation, RBI should pursue
Cheap money policy. (WRONG: follow
DEAR/TIGHT)
B. To combat deflation, RBI should ▲ ▲
Statutory liquidity ratio (SLR) (WRONG:
should ▼ ▼ SLR)
C. Both A and B
D. Neither A nor B (Correct Answer)
1. Skip 2. Attempt 3.
 Mock Question
Find incorrect statement(s)?
A. To combat inflation, RBI should pursue
Cheap money policy. (WRONG: follow
DEAR/TIGHT)
B. To combat deflation, RBI should ▲ ▲
Statutory liquidity ratio (SLR) (WRONG:
should ▼ ▼ SLR)
C. Both A and B (Correct Answer)
D. Neither A nor B
1. Skip 2. Attempt 3.
 Mock Question UPSC 2010
When RBI ▲ ▲s CRR, It means ___.
A. RBI will have less money to lend
B. Government will have less money to
spend.
C. Commercial banks will have more
money to lend
D. Commercial banks will have less
money to lend
1. Skip 2. Attempt 3.
 Mock Question UPSC 2010
When RBI announces an ▲ ▲ of Cash reserve
ratio, what does it mean?
A. RBI will have less money to lend (irrelevant)
B. Union government will have less money to
spend. (irrelevant)
C. Commercial banks will have more money to
lend (wrong. Reverse will happen)
D. Commercial banks will have less money to
lend (right)

1. Skip 2. Attempt 3.
 Bi- Ban
Rep
monthl 2014 k MSF RR SLR CRR
o
y Rate
first April 23 4
22.
second June 4
5
Augus
third 22 4
t
fourth Sep 22 4
Fifth Dec 22 4
Surpriz 15/1/1
 Reserve Ratios

SLR
RBI
Reduced SLR
To flow money in
Productive
Promised fiscal sectors of
Economy
consolidation
 Both counted on Have to set aside this
NDTL much cash in reserve.
TIME(FDRD) Profit? NO!
Demand
(CASA)
Bank SLR
Rate
MSF Repo RR
21.5
CRR
8.25 8.25 7.25 6.25 % 4%

Banks have to keep this much

in cash, gold, G-sec & other
RBI approved securities.
 Monetary Policy
Quantitative tools
1.Reserve Ratio (CRR, SLR)
2.Open Market operation
(OMO)
Government securities
Inflation: Open Market Ops.

To combat inflation, RBI has to reduce

money supply
Inflation: Open Market Ops.
 Why would banks bother with OMO?
Pay 0-4-9% Pay 10-15-18%

Depositors Borrowers
Idle money
=LOSS MAKING
Must invest
G-Sec: 8%
Liquidity / money supply
▼ ▼d ▲ ▲d
Quant. Inflation
Tool fight
Tight/dear
CRR, ▲▲
SLR
To fight inflation,
OMO Sell
I’ve to ▼ ▼ money supply
from the system
Quant. Inflation Deflation
Tool fight fight
Tight/dear Easy/
Cheap
CRR, ▲▲ ▼▼
SLR
OMO Sell Buy
 MCQ (UPSC-2013)
In context of Indian Economy, ‘Open Market
Operation’ refers to
A. Borrowing by scheduled banks from RBI
B. Lending by commercial banks to
industries and trade
C. Purchase and sale of government
securities by the RBI
D. None of Above

1. Skip 2. Attempt 3.
 MCQ (UPSC-2013)
In context of Indian Economy, ‘Open Market
Operation’ refers to
1. Borrowing by scheduled banks from RBI
(Repo/Bank)
2. Lending by commercial banks to
industries and trade (irrelevant)
3. Purchase and sale of government
securities by the RBI (RIGHT)
4. None of Above
1. Skip 2. Attempt 3.
Which of the following will ▲ ▲ CSAT-2012
Money supply in the economy?
Answer
1. Purchase of government Choices
securities from public by central
bank A. Only 1
2. Deposit of currency in B. 2 and 4
commercial banks by the public
C. 1 and 3
3. Borrowing by government from
the central bank. D. 2, 3 and
4. Sale of government securities to 4
the public by central bank.
Which of the following will ▲ ▲ CSAT-2012
Money supply in the economy?
Answer
1. Purchase of government securities
from public by central bank Choices
2. Deposit of currency in commercial A. Only 1
banks by the public B. 2 and 4
3. Borrowing by government from C. 1 and 3
the central bank.
4. Sale of government securities to D. 2, 3 and
the public by central bank (Bhai) 4
(▼ ▼S Money supply)
 CSAT-2012
Which of the following will ▲ ▲ Money
supply in the economy? Answer
1. Purchase of government securities
Choices
from public by central bank (right)
A. Only 1
2. Deposit of currency in commercial
banks by the public B. 2 and 4
3. Borrowing by government from C. 1 and 3
the central bank. (Public finance)
D. 2, 3 and 4
4. Sale of government securities to
Test series
the public by central bank (▼ ▼S
“A”, Q77,
Money supply)
Ans.C
1. Skip 2. Attempt 3. Mark n Review
 Monetary Policy
Quantitative tools
1.Reserve Ratio (SLR, CRR)
2.Open Market operation
3.Rates: Bank Rate, Repo Rate,
MSF, LAF
Bank Rate: Meaning?

Long term
Loan

Interest
rate: 9%
BANK
RATE
Collateral:
Nothing
Bank Rate Loans 5%
Bank Rate Loans 48%
3%
36%
Less demand
Inflation
controlled
 Monetary Policy
Quant. Inflation Deflation
Tool fight fight
CRR, ▲▲ ▼▼
SLR
OMO Sell Buy
Bank ▲▲ ▼▼
RATE
 Bank Rate: WHY?
Not the main tool to control
money supply these days.
Bank rate is Linked with penal
rates:
If CRR, SLR not maintained:
Penalty= (Bank rate + 3%); 5%
 CRR, SLR Fortnight lag

Fortnight Fortnight
Friday Friday Friday
NDTL
4 cr. CRR
100 Cr.
21.5 cr. SLR
Otherwise penalty
Bank Rate + 3%
Bank Rate + 5%
 Have to set aside
Long term loan this much cash in
from RBI reserve.
without No Profit
Bank
collateral MSF Repo RR SL CR
Rate R+1 R% R-1 R R

LAF NDTL
Banks have to keep this
much in cash, gold, G-sec &
other RBI approved
LAF: Liquidity Adjustment Facility (2000)
Collateral? = Government security.
LAF Short term loans.
Repo When clients borrow
from RBI. 8%
Reverse When clients deposit
Repo money in RBI. 8-
1=7%
 Repo Rate: Meaning?
Repo Rate
8%
100 crore

SBI to
Repurchase
@108 Cr. Collateral: G-
After 7 days Sec
Bank can’t use
these G-sec to
borrow under
Repo
 What’s the difference?
LAF (Repo) MSF

Minimum 5 cr  1 cr.
All clients eligible  Only scheduled
1. Central & State commercial banks
Government can bid.
2. All Banks  Paid up cap. 5l,
protect interest of
3. NBFI (LIC, UTI)
depositors=> RBI
Act 1934, 2nd Sch.
 LAF (Repo) MSF

Bank cannot
use SLR quota
Can use
securities Maximum
No limit. Borrow
according to
limit 0.75%
your securities. NTDL.
R% R+1%
Bank use these
G-sec to borrow
under MSF
0.75% of NDTL
=75 lakh
borrow
 Reverse Repo Rate: Meaning?
Reverse Repo
Rate 7%
100 crore

RBI to
Repurchase
@107 Cr. Collateral: G-
After 7 days Sec
 Reverse Repo
Reverse repo rate = “it is interest rate
paid by RBI to its clients for short term
loans.”
 Central & State Government, All Banks,
NBFI
Collateral: government securities
2011: RR = Repo – 1% (100 basis points).
Dec 2014: Repo = 8%.
Reverse repo =8-1=7%
 (
ReR%
p ) o MSF

Repo
R+ 1 %
rse
eve -1%
R

POLICY RATE
1%= 100 basis points
8%- decreased by 25 basis
points
8.00-0.25=7.75 (15/Jan/15)
 During inflation

Repo Rate Car Loan

8% 13%
1,00,000
During inflation: Tight money policy

Repo Rate Car Loan

Repo Rate Car Loan
8% 13%
18% 36% 70,000
 Monetary Policy
Quant. Inflation
Tool fight
CRR, ▲▲
SLR
OMO Sell
Policy ▲▲
Rate
 Monetary Policy
Quant. Inflation Deflation
Tool fight fight
CRR, ▲▲ ▼▼
SLR
OMO Sell Buy
Policy ▲▲ ▼▼
Rate
Repo Rate

CPI

WPI
 Ban
Bi-
k MSF Rep RR
month 2014 SLR CRR
Rat +1 o -1
ly
e
first April 9 9 8 7 23 4
secon 22.
June 9 9 8 7 4
d 5
Augu
third 9 9 8 7 22 4
st
Sept,3
 Ban
Bi-
k MSF Rep RR
month 2015 SLR CRR
Rat +1 o -1
ly
e
RBI should decrease 1. Banks not passing
policy
8.2 8.2 7.2 6.22. Must
21. check
ThirdrateAug
to boost 4
Growth 5 5 5 5 5
inflation
 All clients can borrow short Have to set
Long term loan term loans from RBI @this
aside this much
from RBI interest rate. can’t use SLR
securities though! cash in reserve
=no income
Bank
Rate
MSF Repo RR SLR CRR
8.25 8.25 7.25 6.25 21.5% 4%

Only for Sch.

Commercial banks What RBI pays to
its clients for
can borrow from Banks have to keep this
short term loans
RBI @this Interest much in cash, gold, G-sec &
rate. Can even use other RBI approved
securities
SLR securities
 CSAT-2014
The terms 'Marginal Standing Facility
Rate' and 'Net Demand and Time
Liabilities', are used in relation to
A. Banking operations
B. communication networking
C. military strategies
D. supply and demand of agricultural
products

1. Skip 2. Attempt 3.
 Limitation
of Monetary policy
1.Why it failed to contain inflation?
(2013-14)
2.Urjit Patel Committee
recommendations
How does Policy rate affects economy?
Billion Rs. 2013
DEMAND 8,142
TIME 77,963
 Monetary Policy: limitations (Developing-countries)

1.People don’t have many investment

alternatives. So, Commercial banks
have high deposits.
2.Unorganized money market; Shroff;
lack of financial inclusion
3.Monsoon uncertainty, cyclone,
flood, draughts => Supply side
constrains
 Monetary Policy: limitations (Developing-countries)

1.Crude oil, gold import

2.Fiscal deficit, subsidy leakage,
Black money, underground
economy
3.Solution: Urjit Patel Committee
 Committees by RBI
Bimal Jalan
Retired governor
New Bank Licenses
Feb 2014 report given
Nachiket Mor
RBI board of directors.
Financial products for small businessmen and low income household.
Financial inclusion: banking, credit, investment, insurance. + consumer protection

Urjit Patel
Dy. Governor
Revise and Strengthen Monetary policy framework
 Urjit Patel
Expert Committee to Revise
and Strengthen the Monetary Monetary
Policy Framework Policy
January 2014 report: Reforms
Three Major Recommendation:
1. RBI inflation targets (2-6%)
2. Government help RBI
3. RBI fix accountability
 Until Now Urjit Patel

WPI  CPI (All India Urban

But 60% GDP + Rural)
comes from service  Minimum inflation:
sector. 2%
Multi-targets:  Maximum 6%
reduce inflation,  =4% (+/- 2% band)
GDP growth,
 Similar system in
employment
Mexico, S.Africa,
growth….
Israel
Nominal Anchor 4% CPI: When? Timeframe
Chile: Urjit’s Target for
• 90s CPI 25%
India
• 2000s: CPI target 3% (+/- 1%
band) 12%
10%
10% 8%
8% 6%
6% 4%
4%
2%
0%
0 12 24 36
 Nominal Anchor 4% CPI: How? RBI?
%
M -1S%F%)
o (R +1%
ReReppo
erse
v
Re

Policy rate= LAF repo Rate

Decided by voting in MPC.
Reverse repo=-1% (100 basis point)
MSF=+1%
Spread +1/-1 should not be changed frequently
Keep Repo higher than CPI
 Monetary policy under Rajan
RR
Bi-monthly CPI
Policy
2014 MSF Repo Rep
target
o
start
first April 9 8 7
ed
second June 9 8 7
third August 9 8 7
 Monetary policy under Rajan
Challenges:
CPI
January • 60% El Nino
Target
• Geopolitical
2015 8% problems
• Subsidies
2016 6%
Repo Rate

CPI

WPI
 Urjit Patel
1. RBI target inflation with
deadline
Monetary
2. Government should help RBI Policy
3. RBI’s accountability has to be
fixed
 Urjit Patel
MNREGA: wage ▲ ▲…yes.
Productive growth…no? Governme
Subsidy leakage, corruption nt to help
Administered price…x RBI
Fiscal consolidation
Monetary Policy: accountability in India
RBI Act.
Governor directly accountable to Government
Govt. can issue directives to RBI in public
interest.
Parliament’s standing Committee on finance-
can summon Governor Avg. 3-4/year.
Monetary policy made by Governor alone.
(sign.)
OVERALL No formal accountability
mechanism.
 Urjit: Monetary Policy: accountability in India
Target: 4% (2% band)= 2-6% .
Failure?? Three quarters successively.
MPC issue public statement
1. Each member will sign it
2. Reasons for failure
3. Action proposed
4. Time-frame for result.
Each cluster Existing dept will be grouped into
Monetary
FIVE clusters
policy
headed by COO
Dy.Gov. rank
Need Govt. Services Regulatory

approval

Financial
Supervision
market
 Self Study
NCERT Class12:
Macroeconomics
Chapter 3 Money and Monetary
banking Policy
Ignore complicated graphs-
formula-equations
WPI, CPI, IIP,
inflation=>L5/P5.pptx
 Next
Qualitative tools
Banking sector evolution since British
India
Financial inclusion: PM-JDY, KVP etc.