2.4.1. Quantitative Credit Control Methods

These methods are designed to control the overall volume of credit created in an economy. A number of them exist of date such as CRR, SLR, Bank Rate, Repo rate, Reverse Repo rate, interest changes for the instruments of the Money Market, etc.

Statutory Liquidity Ratio: The statutory liquidity ratio refers to that proportion of total deposits which the commercial banks are required to keep with themselves in a liquid form. The commercial banks generally make use of this money to purchase the government securities. Thus, the statutory liquidity ratio, on the one hand, is used to siphon off the excess liquidity of the banking system, and on the other, it is used to mobilize revenue for the government. The Reserve Bank of India is empowered to raise this ratio upto 40 per cent of aggregate deposits of commercial banks. At present it is 19.5 per cent (August 2018). It used to be as high as 38.5 percent at one point of time.

Cash Reserve Ratio: The cash reserve ratio (CRR) is the ratio (fixed by the RBI) of the total deposits of a bank in India, which is kept with the RBI in cash form. CRR deposits do not earn any interest for banks. Initially, limits of 3% (lower) and 20% (upper) were set for CRR, but respective amendments removed these limits, thereby providing RBI with much needed operational flexibility. If CRR is high, less money is available for lending by the banks to players in the economy. RBI increases CRR to tighten credit and lowers CRR to expand credit in the economy. CRR as a tool of monetary policy is used when there is a relatively serious need to manage credit and inflation. Otherwise, RBI relies on signaling its intent through the policy rates of repo and reverse repo. At present CRR is 4 percent (August 2018).

Bank Rate: In basic terms, bank rate is the interest rate at which RBI provides long term credit facility to commercial banks. A change in bank rate affects other market rates of interest. An increase in bank rate leads to an increase in other rates of interest, and conversely, a decrease in bank rate results in a fall in other rates of interest. Bank rate is also referred to as the discount rate. A deliberate manipulation of the bank rate by the Reserve Bank to influence the flow of credit created by the commercial banks is known as bank rate policy.

An increase in bank rate results in an increase in the cost of credit or cost of borrowing. This in turn leads to a contraction in demand for credit. A contraction in demand for credit restricts the

total availability of money in the economy, and hence results as an anti-inflationary measure of control.

Penal rates are linked with Bank Rates. For instance if a bank does not maintain the required levels of CRR and SLR, then RBI can impose penalty on such banks.

Nowadays, bank rate is not used a tool to control money supply, rather LAF (Repo Rate) is used to control the money supply in economy.

Repo Rate: Repo rate is the rate at which banks borrow funds from the RBI to meet the gap between the demands they are facing for money (loans) and how much they have on hand to lend. In simple words, Repo Rate is the interest rate charged by the Central Bank from other banks for short-term borrowings.

If the RBI wants to make it more expensive for the banks to borrow money, it increases the repo rate; similarly, if it wants to make it cheaper for banks to borrow money, it reduces the repo rate. As of August 2018 repo rate stood at 6.25%.

Reverse Repo Rate: Reverse Repo is the rate at which the Central Bank (RBI) borrows from the market. This is called as reverse repo as it the reverse of repo operation.

Repo and Reverse Repo Rates are also referred to as the Policy rates and are often used by the Central Bank (RBI) to send single to the financial system to adjust their lending and borrowing operations.

Repo rates and reverse repo rates form a part of the liquid adjustment facility (LAF).

Open Market Operations (OMOs): It refers to buying and selling of government securities in open market in order to expand or contract the amount of money in the banking system. Purchases inject money into the banking system while sale of securities do the opposite. It is a common misconception that OMOs change the total stock of government securities, but in reality they only change the proportion of Government Securities held by the RBI, commercial and co-operative banks. The Reserve Bank of India has frequently resorted to the sale of government securities to which the commercial banks have been generously contributing. Thus, open market operations in India have served, on the one hand as an instrument to make available more budgetary resources and on the other as an instrument to siphon off the excess liquidity in the system.