Course Code:

Course Title:MacroEconomics

Course Leaders:

Sunita Chakraborty
Sunita.tsld@msruas.ac.in

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 Taxes and Money Management

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 Fiscal and Monetary Policies
At the end of this session, students will be able to:
Meaning and Objectives of Monetary Policy
Elements of Monetary Policy
Limitations of Monetary Policy Measures
Definition of Fiscal Policy
Instruments of Fiscal Policy
Limitation of Fiscal Policy
Definition of Gross domestic Product

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 Monetary Policy

Monetary Policy of India is formulated and executed by reserve bank of India to achieve specific
objectives.
The monetary policy is defined as discretionary act undertaken by the authorizes designed to
influence
• Supply of Money
• Cost of Money or rate of interest
• The availability of money for achieving specific objectives

The main elements of monetary policy are:

• It regulates stock and growth rate of money supply
• It regulates the entire banking system of the economy
• It regulates the level an structure of interest rates directly in organized sector and indirectly in
unorganized sector
• It determines the allocation of loans among different sectors

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 Objectives of Monetary Policy

• Full Employment
• To attain price stability
• To promote Economic growth
• To attain exchange stability
• To promote saving and investment
• To control Trade Cycle
• To promote Employment
• To regulate Money Supply in Economy

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 Instruments of Monetary Policy

• Bank Rate
• Statutory Liquidity Ratio
• Open Market Operations
• Cash Reserve Ratio
• Repurchase Auction Rate(Repo)and Reverse Repurchase Auction Rate
(Reverse Repo)
• Margin Requirement
• Credit Ceiling
• Direct Action
• Moral Persuasion

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 Bank Rate

It is the rate at which the Reserve Bank of India lends to the commercial
banks or rediscounts their bills. If bank rate is increased, then the
commercial banks also charge higher rate of interest on loans given by
banks to public because now commercial banks gets funds from RBI at
higher rate of interest. Higher rate of interest will contract credit in the
economy ie public will take lesser loans because of higher rate of
interest.

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 Statutory Liquidity Ratio

It means a certain percentage of deposits is to be kept by banks in form

of liquid assets .This is kept by bank itself the liquid assets here include
government securities ,treasury bills and other securities notified by RBI.
If SLR is more then banks have to keep more part of deposits in specified
securities and banks will have less surplus funds for granting loans .It will
contract credit. SLR are fixed by RBI and usually it has been ranging
between 24% to 39 %.The current SLR is 23%

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 Open Market Operations

It means that the bank controls the flow of credit through the sale and
purchase of securities in the open market. When securities are purchased by
central bank ,then RBI makes payment to commercial banks and public. So,
the public and commercial banks now have more money with them . It
increase money supply with commercial banks and public. This will expand
credit in the economy.

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 Cash Reserve Ratio

Cash Reserve Ratio is a certain percentage of bank deposits and bank are
required to keep with RBI in the form of reserves or balances. Higher the
CRR with the RBI lower will be the liquidity in the system and vice versa.

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 Repo Rate and Reverse Repo Rate

Repo Rate is the rate at which RBI lends to commercial banks generally
against government securities. Reduction in Repo Rate helps the
commercial banks to get money at a cheaper rate and increase in Repo
Rate discourages the commercial banks to get money as the rate increases
and becomes expensive. Reverse Repo rate is the rate at which RBI borrows
money from the commercial banks. The increase in the Repo rate will
increase the cost of borrowing and lending of the banks which will
discourage the public to borrow money and will encourage them to
deposit. As the rates are high the availability of credit and demand
decreases resulting to decrease in inflation. This increase in Repo Rate and
Reverse Repo rate is a symbol of tightening of the policy.

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 Margin Requirement
Margin is the difference between loan value and market value of security.
It is fixed by RBI .For different types of loans
,margin requirements is different. If margin % is more ,then less loan will
be given for a certain value of security and vice versa. Eg if margin
requirement is 20percent then bank will give maximum 80% of the market
value of security as loan. For priority sector, margin requirement is less
and in areas where credit is to be contracted margin requirement is
increased.

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 Moral Persuasion

Reserve bank can also exercise moral influence upon the members banks
with a view to pursue its monetary policy. RBI convinces banks to curb loan
to unproductive sectors. From time to time reserve bank holds meetings
with the member banks seeking their
Cooperation in effectively controlling the monetary system of the country. It
advices them to extent more credit to priority sector.

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 Direct Action
According to 1949 act, Reserve Bank can stop any commercial bank from
any type of transaction. In case of defiance of the orders of reserve bank, it
can resort to direct action against the member bank. It can stop giving loans
and even recommend the closure of the member bank to the central
government under pressing circumstances.

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 Credit Ceiling
In this operation RBI Issues prior information or direction that loans to the
commercial banks will be given up to a certain limit. In this case commercial
bank will be tight in advancing loans to the public. They will allocate loans to
limited sectors .Few example of ceiling are agriculture sector advances ,
priority sector lending.

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 Limitations of Monetary Policy Measures

• Poor Banking Habits

• Underdeveloped Money Market
• Existence of Black Money
• Conflicting Objectives
• Lack of Coordination with Fiscal Policy
• Lack of Banking Facilities
• Limitations of Monetary Instruments

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 Fiscal Policy

Fiscal Policy is related to income and expenditure of the government. It is

an instrument for promoting economic growth, employment, social
welfare etc. Fiscal policy means any decision to change the level,
composition or timing of government or to change the rate and structure
of tax. The objectives of fiscal policy is same as of monetary policy.

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 Public Expenditure
Public expenditure influences the economic activities of country very
much. Public expenditure may be of two kinds ie developmental and non
developmental .Expenditure on developmental activities requires huge
amount of capital. So much capital cannot be made available by private
sector alone. It requires substantial increase in public expenditure. Public
expenditure may be made in many ways
1.Development of state enterprises
2.Support to private sector
3.Develoment of infrastructure
4.Social Welfare

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 Taxation Policy

Taxes are the main source of revenue of Government .Government levies

both direct and indirect taxes in India .Direct taxes are those which are
directly paid by the assesses to the government ie income tax ,wealth tax
etc.
Indirect tax are paid indirectly by the public to the government, ie excise
duty ,custom duty, VAT etc. Direct tax are progressive in nature. Indirect tax
are not progressive .These change from all the segments of society at same
rate. The main objectives of taxation policy are:
Mobilization of resources
To promote saving
To bring Equality of income and wealth.

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 PUBLIC DEBT

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 Deficit Financing

Deficit Financing refers to financing the budgetary deficit .Budgetary deficit

here means excess of govt expenditure over government income.It means
taking loans from the reserve bank of India by the government to meet the
budgetary deficit .Reserve bank gives loans buy issuing new currency notes.
Increase in money supply leads to fall in value of money. Fall in value of
money in turn leads to increase in price level. So deficit financing should be
kept low as it leads to price rise in economy. Thus due to deficit financing
necessary funds are made available for economics. Growth and on the other
inflation of country increases.

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 Limitations of Fiscal Policy

• Lack of accurate forecasting

• Delay in Decision
• Poor tax Administration
• Inequality of Income
• Failure in Public Sector
• Increasing Interest Burden

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 Gross Domestic Product
Gross domestic product (GDP) is a monetary measure of the value of all
final goods and services produced in a period (quarterly or yearly)
Nominal GDP estimates are commonly used to determine the economic
performance of a whole country or region ,and to make international
comparisons .

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 Components of GDP

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 Calculation of GDP

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 Investment and Government Spending’s

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 Exports and Imports

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 Consumer Price Index

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 Measurement of Consumer Price
Index

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 Consumer Price Index

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 Consumer Price Index

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 Consumer Price Index

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 Consumer Price Index

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 Summary
The aims of fiscal and monetary policy are similar. They could both be used to:
Maintain positive economic growth (close to long-run trend rate of 2.5%)
Aim for full employment
Keep inflation low (inflation target of 2%)
The principal aim of fiscal and monetary policy is to reduce cyclical fluctuations in the economic cycle.
In recent years, governments have often relied on monetary policy to target low inflation. However, in
recessions, there are strong arguments for also using fiscal policy to achieve economic recovery.
Fiscal policy involves changing government spending and taxation. It involves a shift in the
governments budget position. e.g. Expansionary fiscal policy involves tax cuts, higher government
spending and a bigger budget deficit. Government spending is a component of AD.
Monetary policy involves influencing the demand and supply of money, primarily through the use
of interest rates.
Monetary policy can also involve unorthodox policies such as open market operations and
quantitative easing.
Monetary policy is usually carried out by an independent Central Bank

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