GOLD STANDARD AND ITS ADVANTAGES AND LIMITATIONS

Definition: 
1. The gold standard is when a country ties the value of its money to the amount of gold it
possesses.
2. The gold standard is a monetary system where a country's currency or paper money has a
value directly linked to gold.

Anyone holding that country's paper money could present it to the government and receive an (agreed
upon) amount of gold from the country's gold reserve. That amount of gold is called “par value.” 

With the gold standard, countries agreed to convert paper money into a fixed amount of gold. A
country that uses the gold standard sets a fixed price for gold and buys and sells gold at that price.

Advantages 
1. The benefit of a gold standard is that a fixed asset backs the money's value.
2. It provides a self-regulating and stabilizing effect on the economy.
3. The government can only print as much money as its country has in gold.
4. It also discourages government budget deficits and debt, which can't exceed the supply
of gold
5. A gold standard rewards the more productive nations. For example, they receive gold when
they export. With more gold in their reserves, they can print more money. That boosts
investment in their profitable export businesses.
6. The gold standard spurred exploration. It's why Spain and other European countries
discovered the New World in the 1500s. They needed to get more gold to increase their
prosperity. It also prompted the Gold Rush in California and Alaska during the 1800s. 

Disadvantages 
1. One problem with a gold standard is that the size and health of a country's economy are
dependent upon its gold.
2. The economy is not reliant on the resourcefulness of its people and businesses but solely
dependent on gold
3. Countries without any gold were in disadvantageous position. 
4. The United States never had that problem. It's the world's second-largest gold mining country
after South Africa. Australia, Canada and many developing countries also are major gold
producers.
5. The gold standard makes countries obsessed with keeping their gold. They ignore the more
important task of improving the business climate.
6. Government actions to protect their gold reserves caused significant fluctuations in the
economy. In fact, between 1890 and 1905, the U.S. economy suffered five major recessions
(slowdown) for this reason.

COMPONENTS OF CURRENT AND CAPITAL ACCOUNTS

In macroeconomics and international finance, the capital account is one of two main components of
the balance of payments, the other component is the current account.

Definition: 
The current account is a country's trade balance plus net income and direct payments.

The trade balance is a country's imports and exports of goods and services.

The current account records
1. Exports and imports of goods and services as well as International transfers.
2. International transactions of purchase and sale of foreign assets and liabilities during a
particular year. The goal for most countries is to accumulate money by exporting more goods
and services than they import. That’s called a trade surplus.
3. It means a country will take in more earnings. A deficit occurs when a country's government,
businesses and individuals export fewer goods and services than they import.
4. The current account is part of a country's balance of payments.

The Four Current Account Components

Current account has four components: trade, net income, direct transfers of capital and asset income. 

1. Trade: Trade in goods and services is the largest component of the current account. Therefore,
a trade deficit is enough to create a current account deficit.

2. Net Income: This is income received by the country’s residents minus income paid to
foreigners. The country’s residents receive income from two sources.
The first is earned on foreign assets owned by a nation's residents and businesses. That includes
interest and dividends earned on investments held overseas.
The second source is income earned by a country's residents who work overseas.
Income paid to foreigners is similar. The first category is interest and dividend payments to
foreigners who own assets in the country. The second is wages paid to foreigners who work in the
country.
If the income received by a country's individuals, businesses and government from foreigners is more
than the income paid out, then net income is positive. If it is less, then it contributes to a deficit.

3. Direct Transfers: This includes remittances from workers to their home country. For

example, Mexico receives $25 billion from abroad from immigrants living in the United
States. President Trump threatened to stop those payments if Mexico did not pay for the border wall
he wants to build. 

Direct transfers also include a government's direct foreign aid. For example, the United States
spends $22 billion a year on foreign aid. That adds to America's $502 billion current account deficit,
the largest in the world.

A third direct transfer is foreign direct investments. That's when a country's residents or businesses
invest in businesses in foreign countries.

The fourth direct transfer is bank loans to foreigners.

4. Asset Income: This is composed of increases or decreases in assets like bank deposits, central
bank and government reserves, securities and real estate. For example, if a country’s assets do well,
asset income will be high.

CURRENT ACCOUNT CAPITAL ACCOUNT

The current account records exports and The capital account records transactions of
imports of goods and services as well purchase and sale of foreign assets and
as unilateral transfers  liabilities during a particular year.
 he current account considers goods and The capital account is concerned with
services currently being produced. The payments of debts and claims, regardless of
credit and debit of foreign exchange due to the time period. The balance of capital
these transactions are also recorded in account includes all items reflecting changes
the balance of current account. in stocks.

The current account deals with short-term The capital account is a record of the inflows and
transactions known as actual transactions, as outflows of capital that directly affect a country’s
they have a real impact on income, output and foreign assets and liabilities.
employment levels of a country through the
movement of goods and services in the It is concerned with all international trade
economy. transactions between citizens of a given country
It is comprised of visible trade (export and and citizens in other countries.
import of goods), invisible trade (export and
import of services), unilateral transfers, and
investment income (income from factors such
as land or foreign shares).
The resulting balance of the current account is
approximated as the sum total of balance of
trade.
In economic terms, the current account deals In economic terms, the capital account reflects
with receipt and payment in cash as well as sources and utilization of capital.
non-capital items, and the capital account
reflects sources and utilization of capital.

An open economy can therefore buy and sell assets in the financial markets, generating flows of capital.

NCO = Acquisition of foreign assets by residents – Acquisition of domestic assets by non-residents

When the net capital outflow is positive, domestic residents are buying more foreign assets than
foreigners are purchasing domestic assets. When it’s negative, foreigners are purchasing more domestic
assets than residents are purchasing foreign assets.

Imbalances in the net capital outflow (NCO) are associated with imbalances in the trade balance (or net
exports, NX), following the identity NCO = NX.

Each exchange that affects the net capital outflow, also affects net exports in the same amount. For
instance, if an economy is running a trade deficit, it must be financing the net purchase of goods and
services by selling assets abroad. If it’s running a trade surplus, the excess in foreign currency it receives
is being used to buy assets from abroad.

Since net capital outflows are related to net exports, they are therefore related to gross domestic
production.

From the equation showing the relationship between the current account, savings and investment, we
have:

S = I + NX = I + NCO

where
S = savings
I = domestic investment
NX = net exports
NCO = net capital outflows
From these equations, we can derive an easy-to-use cheat sheet about international flows of goods,
services and investment:

Reserve Bank of India

Reserve Bank of India (RBI) is the India's central bank, headquartered at Bombay. Central bank of a
country execute multiple functions such as overseeing monetary policy, issuing currency, managing
foreign exchange, working as a bank of government and as banker of scheduled commercial banks,
etc. It also works for overall economic growth of the country. The RBI was established in 1935 with
the provision of Reserve Bank of India Act, 1934.Though privately owned initially, it was nationalised
in 1949 and since then fully owned by Government of India (GoI). The Reserve Bank”s affairs are
governed by a central board of directors. The board is appointed by the Government of India for a
period of four years. Major functions of the RBI are as follows:

1. Issuer of currency : The RBI has the sole right to issue currency notes except one rupee notes
which are issued by the Ministry of Finance. This concentration of notes issue function with the
Reserve Bank has a number of advantages: (i) it brings uniformity in notes issue; (ii) it makes
possible effective state supervision; (iii) it keeps faith of the public in the paper currency.

2. Banker to Government: Just like individuals need a bank to carry out their financial transactions
effectively & efficiently, Governments also need a bank to carry out their financial transactions.
RBI serves this purpose for the Government of India (GoI). As banker to the government the
Reserve Bank manages the banking needs of the government. It represents the Government of
India as the member of the IMF and the World Bank.

3. Monetary Authority: Formulates, implements and monitors the monetary policy for A)
maintaining price stability, keeping inflation in check ; B) ensuring adequate flow of credit to
productive sectors.

4. Custodian of Cash Reserves of Commercial Banks: The commercial banks hold deposits in
the Reserve Bank and the RBI has the custody of the cash reserves of the commercial banks.

5. Custodian of Country’s Foreign Currency Reserves: The RBI has the custody of the country’s
reserves of international currency, and this enables the Reserve Bank to deal with crisis.

6. Lender of Last Resort: The commercial banks approach the Reserve Bank in times of
emergency when there is financial difficulties, and the RBI comes to their rescue though it might
charge a higher rate of interest.

7. Banker's bank and supervisor: RBI also works as banker to all the scheduled commercial
banks. All the banks in India maintain accounts with RBI which helps them in clearing & settling
inter bank transactions and customer transactions smoothly.

7. Regulator of the Banking System: RBI has the responsibility of regulating the nation's financial
system. As a regulator and supervisor of the Indian banking system it ensures financial stability &
public confidence in the banking system.

WORLD BANK AND ITS GROUP OF INSTITUTIONS

The World Bank Group (WBG) is a family of five international organizations that make leveraged
loans to developing countries. It is the largest and most famous development bank in the world and it
is based in Washington, D.C.  

The WBG came into formal existence in 1945 and commenced its operations in 1946, it approved its
first loan on May 1947 (US$ 250M to France for post-war reconstruction, in real terms the largest loan
issued by the Bank to date). The bank's goal is to achieve the twin goals of ending extreme poverty
and building shared prosperity.

The term "World Bank" generally refers to just the IBRD and IDA, whereas the term World Bank
Group or WBG is used to refer to all five institutions collectively.

The IBRD has 189 member governments, and the other institutions have between 153 and 184
members.

World Bank Group is run by a Board of Governors meeting once a year. Each member country
appoints a governor, generally its Minister of Finance. On a daily basis the World Bank Group is run
by a Board of 25 Executive Directors to whom the governors have delegated certain powers. Each
Director represents either one country (for the largest countries), or a group of countries. Executive
Directors are appointed by their respective governments or the constituencies. Traditionally, the Bank
President has always been a U.S. citizen nominated by the President of the United States, the largest
shareholder in the bank. The nominee is subject to confirmation by the Board of Governors, to serve
for a five-year, renewable term.

The World Bank Group consists of

1. the International Bank for Reconstruction and Development (IBRD), established in 1945, which
provides debt financing on the basis of sovereign guarantees;
2. the International Development Association (IDA), established in 1960, which provides
concessional financing (interest-free loans or grants), usually with sovereign guarantees;

The World Bank's (the IBRD and IDA's) activities are focused on developing countries, in fields such
as human development (e.g. education, health), agriculture and rural development (e.g. irrigation and
rural services), environmental protection (e.g. pollution reduction, establishing and enforcing
regulations), infrastructure (e.g. roads, urban regeneration, and electricity), large industrial
construction projects, and governance (e.g. anti-corruption, legal institutions development). The IBRD
and IDA provide loans to member countries, as well as grants to the poorest countries. Loans or
grants for specific projects are often linked to wider policy changes in the sector or the country's
economy as a whole. For example, a loan to improve coastal environmental management may be
linked to development of new environmental institutions at national and local levels and the
implementation of new regulations to limit pollution.

3. The International Finance Corporation (IFC), established in 1956, which provides various

forms of financing primarily to the private sector; The IFC was established as the private sector
arm of the World Bank Group to advance economic development by investing in strictly for-profit
and commercial projects that purport to reduce poverty and promote development. The IFC's aim
is to create opportunities for people to escape poverty and achieve better living standards by
mobilizing financial resources for private enterprise, supporting businesses and other private
sector entities, and creating jobs and delivering necessary services to those who are poverty-
stricken. Since 2009, the IFC has focused on a set of development goals that its projects are
expected to target. Its goals are to increase sustainable agriculture opportunities,
improve health and education, increase access to financing for microfinance and business clients,
advance infrastructure, help small businesses grow revenues, and invest in climate health.[5]
IFC comes under frequent criticism from NGOs. Criticism focuses on IFC working excessively with
large companies or wealthy individuals who should be able to finance their investments without
help from public institutions such as IFC. An example often cited by NGOs and critical journalists
is IFC granting financing to a Saudi prince for a five star hotel in Ghana.
4. the International Centre for Settlement of Investment Disputes (ICSID), established in 1965,
which works with governments to reduce investment risk; From its launch to 30 June 2012, the
ICSID has registered 390 dispute cases across the following economic sectors: oil, gas,
and mining, electricity and other energy, other industries, transportation industry, construction
industry , financial industry, information industry and communication industry, water industry,
sanitation, and food protection, agriculture, fishing, and forestry, services and trade, and tourism
industry. As of 27 July 2012, 246 of 390 registered arbitration cases were concluded, as of 30
June 2012, the ICSID's tribunal had resolved nearly two thirds of disputes while the remainder
were settled or discontinued

5. the Multilateral Investment Guarantee Agency (MIGA), established in 1988, which provides

insurance against certain types of risk, including political risk, mainly to the private sector. It  is
an international financial institution which offers political risk insurance and credit enhancement
guarantees. Such guarantees help investors protect foreign direct investments against political
and non-commercial risks in developing countries. MIGA's stated mission is "to promote foreign
direct investment into developing countries to support economic growth, reduce poverty, and
improve people's lives". It targets projects to create new jobs, develop infrastructure, generate new
tax income, and take advantage of natural resources through sustainable policies and programs.

Buffer Stock and its Distribution

Food grains like wheat and rice are bought by the government from the farmers and stored in
safe granaries (storehouses), so that they can be distributed to the common man through
government shops (ration shops).
The government buys excess stock of food grains and stores it, so that it can be used during
drought or floods or at times of other calamities, when grain productions is low. This excess
stock is called ‘buffer stock’. The buffer stock is distributed to the poor people were there is
shortage of food.
The Central Pool is required to have sufficient stocks of these in order to meet any emergencies
like drought/failures of crop, as well as to enable open market intervention in case of price rise.
The Buffer norms are the minimum food grains the Centre should have in the Central pool at
the beginning of each quarter to meet requirement of public distribution system and other
welfare measures. The Central pool requires maximum 16 crore tonnes to be maintained in a
year.
The FCI has storage capacity for holding buffer stocks of food grains at nodal points in the
country. The storage capacities available with FCI are mainly used for storage of food grains
and partly for other commodities and general warehousing.
Objectives of Buffer Stocks:
The buffer stocks are required to Feed Tamil Nadu Public Distribution System (TPDS) and other
welfare schemes,
Ensure food security during the periods when production is short of normal demand during bad
agricultural years Stabilize prices during period of production shortfall through open market
sales.

The current buffer norms were revised in January 2015. According to the new norms, the
central pool should have 4 crore tonnes of rice and wheat and 3 crore tonnes every year. The
reason for increased buffer stocks due the increase in demand from TPDS (ration shops)
system and also enactment of National Food Security Act.
FCI buys almost one third of the total rice and wheat produced in the country at minimum
support prices! It does not say no to any farmer who wants to sell his produce at MSP. Earlier,
once the buffer norms were met, cabinet approval was needed to sell remaining stock in the
open market. But then, in January 2015; this situation changed. The current policy is that Food
Ministry is authorized to dispose the surplus stock into open market without seeking cabinet
approval.
The Food Corporation of India (FCI) was setup under the Food Corporation Act 1964. FCI buys
the grains from the farmers and stores it in its granaries Its objectives are:-
 Effective price support operations for safeguarding the interests of the farmers.
 Distribution of food grains throughout the country for public distribution system.
 Maintaining satisfactory level of operational and buffer stocks of food grains to ensure
National Food Security.
 In its 40 years of service to the nation, FCI has played a significant role in India's
success in transforming the crisis management oriented food security into a stable
security system.
The functioning of the FCI:-
 The FCI pays the farmers a price that is already fixed by the Government.
 This price is called Minimum Support Price (MSP) The MSP is announced by the
government every year before the sowing season
 The announcement of the price helps farmers to plan their agricultural activity and
increase production.
 INFLATIONARY SPIRAL
Case 1 : Increase in wage leads to higher product cost thus price rise (inflation).

Case 2 : Increase in price  (inflation ) leads to demand of high wages.

When case 1 and 2 happens simultaneously in a series, it is called inflation spiral.

Definition
1. The situation in which price and income increases may each induce further rises in the
other
2. A cycle of worsening inflation as higher prices results in higher wages, increasing costs
and resulting in still higher prices.
3. The wage-price spiral is a macroeconomic theory used to explain the cause-and-effect
relationship between rising wages and rising prices, or inflation. The wage-
price spiral suggests that rising wages increases disposable income, thus raising the
demand for goods and causing prices to rise.
It is also known as Wage- Price Spiral. It is the cause effect relationship between rising prices
and rising wages. Wage chases prices and vice versa.

W-P spiral suggest that rising wages increase disposable income, thus raising the demand for
goods and causing prices to increase. Rising prices cause demand for higher wages, which
leads to higher production costs and further increase pressure on prices.

The wage-price spiral is a macroeconomic theory used to explain the cause-and-effect

relationship between rising wages and rising prices, or inflation. The wage-
price spiral suggests that rising wages increases disposable income, thus raising the demand
for goods and causing prices to rise.

Self-sustaining upward trend in general price levels fueled by the reinforcing feedback of a
vicious circle. Wage price spiral is a typical example of an inflationary spiral: high cost of living
prompts demands for higher wages which push production costs up forcing firms to increases
prices, which in turn trigger calls for fresh wage increases ... and so on. Such situations
continue until radical measures (such as incomes policy) are instituted to break the cycle,
otherwise the currency is rendered almost worthless as a medium of exchange (as it happened
in Germany in the 1920s, in Brazil in the 1980s, and in Argentina in the 1990s) and has to be
replaced with new monetary units (currency).

What is the 'Expenditure Method' in National Income Accounting

The expenditure method is a method for calculating gross domestic product (GDP), which totals
consumption, investment, government spending and net exports.

The expenditure method is the most common way to estimate GDP, and it says everything that
the private sector, including consumers and private firms, and government spend within the
borders of a particular country must add up to the total value of all finished goods and services
produced over a certain period of time.

BREAKING DOWN 'Expenditure Method'

The expenditure method is the most widely used approach for estimating GDP, which is a
measure of the economy's output produced within a country's borders irrespective of who owns
the means to production. The GDP under this method is calculated by summing up all of the
expenditures made on goods and services.
There are four main aggregate expenditures that go into calculating GDP: consumption by
households, investment by businesses, government spending on goods and services, and net
exports (which are equal to exports minus imports of goods and services).

Main Components Under Expenditure Method

 In the United States, the most dominant component in the calculations of GDP under the
expenditure method is consumer spending, which accounts for the majority of U.S.
GDP. Consumption is typically broken down into purchases of durable goods (such as
cars and computers), non-durable goods (such as clothing and food), and services.

 The second component is government spending, which represents expenditures by

state, local and federal authorities on defense and non-defense goods and services,
such as weaponry, health care and education.

 Business investment is one of the most volatile components that goes into calculating
GDP. It includes capital expenditures by firms on assets with useful lives of more than
one year each, such as real estate, equipment, production facilities and plants.

 The last component included in the expenditure approach is net exports, which
represents the effect of foreign trade of goods and service on the economy.

Limitation of GDP Measure

GDP, which can be calculated using numerous methods, including the expenditure approach, is
supposed to measure a country's standard of living and economic health. Critics such as the
Nobel Prize-winning economist Joseph Stiglitz caution that GDP should not be taken as an all-
encompassing indicator of a society's well-being, since it ignores important factors that make
people happy. For example, while GDP includes monetary spending by private and government
sectors, it does not consider work-life balance or the quality of interpersonal relationships in a
given country.

Issue Price
The price at which a new security will be distributed to the public prior to the new issue trading
on the secondary market. Also commonly referred to as offering price.

Difference between MSP, Procurement Price and Issue price?

APRIL 15, 2017  / LUCKY KABOOTER  / 1 COMMENT

Minimum Support Price is the price which is announced before the crop sowing. This the price
at which government is required to buy the crop whether the market price is less or more. GoI
announcing it since 1966-67.
Procurement price is announced after the harvesting and it is higher than MSP. Since the
fiscal 1968- 69 the government announced only the Minimum Support Price which is also
considered as procurement price.
Finally, the Issue Price is the one at which goods are released from FCI (Food Corporation of
India). Here, the difference between MSP and Issue Price is called SUBSIDY.
For Example: Let’s say the MSP of Wheat is 10/Kg. The issue price of wheat from FCI to
general population is 2/Kg. The balance 10-2= 8 is the subsidy amount. This subsidy
component is borne by Government.

The food grains procured and stored by the government are distributed in food-deficit areas and
among the poorer strata of society at a price lower than the market price. This price is known as
issue price.

What is Market Stabilization Scheme (MSS)? How it

is used to manage demonetisation?
Market Stabilization scheme (MSS) is a monetary policy intervention by the RBI to withdraw
excess money supply by selling government securities. The MSS was introduced in April 2004.
Main thing about MSS is that it is used to withdraw excess or money from the system by selling
government bonds.

What securities to be sold under MSS?

The issued securities are government bonds and they are called as Market Stabilisation Bonds
(MSBs). Thus, the bonds issued under MSS are called MSBs. These securities are owned by
the government though they are issued by the RBI. To carry out the MSS, the government
lends its bonds or securities (MSBs) to the RBI. In this way, the RBI becomes a debtor to the
government equal to the value of the MSBs.The money obtained under MSS should be kept
with the RBI. It should not be transferred to the government. This is because, if it is transferred,
government will spend the money in the economy thereby adding to liquidity.
For the issue of MSS, there is a MoU between the government and the RBI about the total limit
of MSBs to be issued by the RBI during a year. As per the latest policy, to  manage liquidity in
the background of demonetisation, the government has increased the limit of MSBs to 6 lakh
crores. The securities or bonds/t-bills issued under MSS are purchased by financial institutions.
They will get an interest for purchasing the securities.

Example 1 : From 2002 onwards, there was huge inflow of foreign capital into India. This led to
appreciation of rupee. Since appreciation is not good for exports, the RBI intervened in the
foreign exchange market by buying dollars. To buy dollars, the RBI has to give rupees. In this
way, high selling of rupees leads to excess rupee and thereby created a potential for inflation.
To overcome this situation, the RBI has sold government bonds. Here bonds go to financial
institutions and money goes back to the RBI. This withdrawal of excess liquidity is called
sterilisation. During 2007-08 alone, RBI sold Rs 2.5 lakh crore worth of securities implying that
Rs 2.5 lakh crore money supply sterilised. Following facts are important to understand MSS.

Example 2: What is the current policy on MSS in the context of demonetisation?

As per the latest policy, the government has increased the amount of MSBs to be issued to Rs
6 lakh crores from just 0.3 lakh crores in the context of demonetisation. After demonetisation,
huge deposits were put into the banking system. At the same time, banks can’t lend it to
customers as it is just temporary money. The RBI has instructed banks to keep all the additional
deposits as CRR. But here, the banks will suffer losses as they have to pay interest to the
depositors. To compensate banks, the MSS policy is revived. Here, banks can put the excess
money obtained from deposits in MSBs. They can get an interest payment as well.
 Monetary Policy of India

Main Elements and Objectives

Monetary Policy of India is formulated and executed by Reserve Bank of India to achieve specific objectives. It
refers to that policy by which central bank of the country controls(i) the supply of money, and (ii) cost of money
or the rate of interest, with a view to achieve particular objectives.

In the words of D.C. Rowan, “The monetary policy is defined as discretionary act undertaken by the authorities
designed to influence (a) the supply of money, (b) cost of money or rate of interest, and (c) the availability of
money for achieving specific objective.”

In developing countries monetary policy has to play a significant role in promoting economic growth. As Prof.
R. Prebisch writes, “The time has come to formulate a monetary policy which meets the requirements of
economic development, which fits into its framework perfectly.” Further, along with encouraging economic
growth, the monetary policy has also to ensure price stability, because the excessive inflation not only has
adverse distribution effect but hinders economic development also.

Thus, monetary policy of India refers to that policy which is concerned with the measures taken to regulate the
credit created by the banks. In developed countries the monetary policy has been usefully used for overcoming
depression and inflation.

main elements of the monetary policy of India:

i. It regulates the stocks and the growth rate of money supply.
ii. It regulates the entire banking system of the economy.
iii. iii. It determines the allocation of loans among different sectors.
iv. iv. It provides incentives to promote savings and to raise the savings-income ratio.
v. v. It ensures adequate availability of credit for growth and tries to achieve price stability.

Objectives of Monetary Policy:

According to former RBI Governor Dr. D. Subba Rao, “The objectives of monetary policy in India are price
stability and growth. These are pursued through ensuring credit availability with stability in the external value of
rupee and overall financial stability.”

The main objectives of monetary policy are

1. Ensuring price stability, that is, containing inflation.

In a developing country like ours, acceleration of investment activity in the context of supply shocks in
the agricultural sector tends to be accompanied by pressures on prices and, therefore, monetary
policy has much to contribute in the short-run management.”Thus, achieving price stability has
remained the dominant objective of monetary policy of Reserve Bank of India.

2. To encourage economic growth.

Promoting economic growth is another important objective of the monetary policy. In the past Reserve
Bank has been criticised that it pursued the objective of achieving price stability and neglected the
objective of promoting economic growth. Monetary policy can promote economic growth through
ensuring adequate availability of credit and lower cost of credit. However, in the opinion of Prof.
 Rangarajan, there is no conflict between the objectives of price stability and growth. Price stability,
according to him, is a means to ensure economic growth. To quote him, “It is price stability which
provides the appropriate environment under which growth can occur and social justice can be
ensured.” In our opinion, this may be true in the long run

3. To ensure stability of exchange rate of the rupee, that is, exchange rate of rupee with the US dollar, pound
sterling and other foreign currencies.
In order to prevent large depreciation and appreciation of foreign exchange rate Reserve Bank has to take
suitable monetary measures to ensure foreign exchange rate stability. Today, the exchange rate of rupee is
determined by demand for and supply of foreign exchange (say, US dollar). When there is mismatch between
demand for and supply of foreign exchange, external value of rupee changes. to prevent the depreciation of
the rupee, Reserve Bank can release more dollars from its foreign exchange reserves. The release of more
dollars by Reserve Bank will increase the supply of US dollars in the foreign exchange market and will
therefore tend to correct the mismatch between demand for and supply of the US dollars. This will help in
stabilising the exchange rate of the rupee.

Following are the main objectives of monetary policy:

i. To Regulate Money Supply in the Economy:
Money supply includes both money in circulation and credit creation by banks. Monetary policy is farmed to
regulate the money supply in the economy by credit expansion or credit contraction. By credit expansion
(giving more loans), the money supply can be expanded. By credit contraction (giving less loans) money
supply can be decreased.

The main aim of the monetary policy of the Reserve Bank was to control the money supply in such a manner
as to expand it to meet the needs of economic growth and at the same time contract it to curb inflation. In other
words monetary policy aimed at expanding and contracting money supply according to the needs of the
economy.

ii. To Attain Price Stability or Control Inflation

Another major objective of monetary policy in India is to maintain price stability in the country. It implies Control
over inflation. Price level, is affected by money supply. Monetary policy regulates money supply to maintain
price stability.

iii. To promote Economic Growth:

An important objective of monetary policy is to make available necessary supply of money and credit for the
economic growth of the country. Those sectors which are quite significant for the economic growth are
provided with adequate availability of credit.

iv. To Promote saving and Investment:

By regulating the rate of interest and checking inflation, monetary policy promotes saving and investment.
Higher rates of interest promote saving and investment.

v. To Control Business Cycles:

Boom and depression are the main phases of business cycle. Monetary policy puts a check on boom and
depression. In period of boom, credit is contracted, so as to reduce money supply and thus check inflation. In
period of depression, credit is expanded, so as to increase money supply and thus promote aggregate demand
in the economy.

vi. To Promote Exports and Substitute Imports:

By providing concessional loans to export oriented and import substitution units, monetary policy encourages
such industries and thus help to improve the position of balance of payments.

vii. To Manage Aggregate Demand:

Monetary authority tries to keep the aggregate demand in balance with aggregate supply of goods and
services. If aggregate demand is to be increased than credit is expanded and the interest rate is lowered down.
Because of low interest rate, more people take loan to buy goods and services and hence aggregate demand
increases and vice-verse.

viii. To Ensure more Credit for Priority Sector:

Monetary policy aims at providing more funds to priority sector by lowering interest rates for these sectors.
Priority sector includes agriculture, small- scale industry, weaker sections of society, etc.

ix. To Promote Employment:

By providing concessional loans to productive sectors, small and medium entrepreneurs, special loan schemes
for unemployed youth, monetary policy promotes employment.

x. To Develop Infrastructure:
Monetary policy aims at developing infrastructure. It provides concessional funds for developing infrastructure.

xi. To Regulate and Expand Banking:

RBI regulates the banking system of the economy. RBI has expanded banking to all parts of the country.
Through monetary policy, RBI issues directives to different banks for setting up rural branches for promoting
agricultural credit. Besides it, government has also set up cooperative banks and regional rural banks. All this
has expanded banking in all parts of the country.
What happens when the Central Bank is following the monetary policy of
Fiscal Tapering?

'Tapering'

Tapering is the gradual winding down of central bank activities used to improve the conditions
for economic growth. Tapering activities are primarily aimed at interest rates and at the
management of investor expectations regarding what those rates will be in the future. These
can include changes to conventional central bank activities, such as adjusting the discount
rate or reserve requirements, or more unconventional ones, such as quantitative easing (QE).

BREAKING DOWN 'Tapering'

As a financial term, tapering is best known in the context of the Federal Reserve’s quantitative
easing program. The program involved a large-scale bond-buying program that aimed to
support struggling economic conditions.

Central banks can employ a variety of policies to improve growth, and they must balance short-
term improvements in the economy with longer-term market expectations. If the central bank
tapers its activities too quickly, it may send the economy into a recession. If it does not taper its
activities, it may lead to high inflation.

Classification of Banks in India

Definition : A bank is a financial institution which deals with debts and credits. Their primary
function is to accept deposits cash from the people and use it for various purposes like lending,
development, business expansion etc.

On the basis of Ownership

These banks are fully owned by Government and primarily
Public Sector Banks focussed on the development of economy keeping social
welfare in mind.

These are those banks which are owned and run by private
Private Sector Banks
entities.

These banks are jointly run by State Government

Co-operative Banks
and group of individuals.

On the basis of Law of Reserve Bank of India (RBI)

 

These are those banks which are registered under the

2nd Schedule of RBI Act 1934. In order to be included in this
schedule banks have to fulfill certain conditions. These are
Scheduled Banks generally government owned ( Public Sector Banks ) , Private
Sector and Foreign Banks. Co-operative Banks are not included
in it but can be included if they satisfy certain conditions like
having paid up capital and reserves above ₹500,000.
 These are those banks which are not registered with 2nd Schedule
of RBI Act 1934. These banks are not entitled to get the facilities
Non Scheduled Banks and privileges given by RBI to Scheduled banks like scheduled
banks are eligible for loans from RBI at Bank Rate , entitled to get
membership of clearing houses etc.

On the basis of exposure to certain fields

These are those banks whose main functions are settling
normal financial transaction processes , taking different types of
Commercial Banks deposits from people and then lend these funds to borrowers ,
providing other financial services like foreign exchange ,wealth
management etc.

These are those banks which are involved in the development

and modernisation of Industrial sector by providing long term
loans to industries. These banks primarily collect cash by
Industrial / Development
issuing shares and debentures. Some of the famous banks
Banks
are Industrial Finance Corporation of India (IFCI) , Industrial
Credit and Investment Corporation of India (ICICI) , Industrial
Development Bank of India (IDBI) etc.

Agriculture is the core sector of our economy so Government

Agriculture/ formed a separate branch to deal with this sector. National Bank
Land Development Banks for Agriculture and Rural Development ( NABARD ) is an apex
development bank in India.

Export-Import Bank of India (Exim Bank) is the premier export

finance institution in India, established in 1982 under the Export-
Export-Import
Import Bank of India Act 1981. Since its inception, Exim Bank of
Development Bank
India has been both a catalyst and a key player in the promotion
of cross border trade and investment.

National Housing Bank ( NHB) is the apex body which take care
of all the matters related with the housing finance. It is wholly
Housing Development
owned by RBI. Popular examples of these banks are
Banks
Housing Development FinanceCorporation ( HDFC), Dewan
Housing Finance Limited ( DHFL) etc.

In previous post we explained about the evolution of banking system in India. Now this was all
about categorization of banks in India under various heads. We will soon publish other
relevant study materials like functions of commercial banks, types of accounts ,  technology  in 
banking  sector etc. and it will be strictly according to the syllabus prescribed by IBPS and SBI.