Monetary Policy | 2024 Dec & June Questions Solved | NTA UGC NET Economics | KIRANRAJ | APPLE B
2024 JUNE
Winch of the following is not an instrument of Monetary Policy ?
A. Cash reserve ratio
B. Open market Operations
C. Bank rate
D. Tax rate
Monetary policy instruments
1. Quantitative Instruments (General Instruments)
a) Open Market Operations (OMO): Buying and selling government securities in the open market.
- Buying securities injects liquidity into the banking system (expansionary policy).
- Selling securities reduces liquidity (contractionary policy).
b) Policy Interest Rates
- Repo Rate: The rate at which commercial banks borrow from the central bank. Lowering this encourages borrowing and spending; raising it does the opposite.
- Standing Deposit Facility (SDF) is a monetary policy instrument used by central banks to absorb excess liquidity from the banking system without requiring collateral.
- Marginal Standing Facility (MSF) is an emergency borrowing window for commercial banks, provided by the central bank when they face short-term liquidity shortages.
- Reverse Repo Rate: The rate at which banks park excess funds with the central bank. Raising this rate reduces money supply.
- Bank Rate: A long-term interest rate used for lending to commercial banks, influencing overall borrowing costs.
c) Reserve Ratios
- Cash Reserve Ratio (CRR): The percentage of a bank’s total deposits that must be held in reserves. Higher CRR reduces money supply, while lower CRR increases it.
- Statutory Liquidity Ratio (SLR): The proportion of reserves that banks must keep in government-approved securities.
2. Qualitative Instruments (Selective Instruments)
a) Credit Rationing: Limits on loans to certain sectors to control excessive lending.
b) Moral Suasion: The central bank persuades commercial banks to follow desired policies, such as curbing risky lending.
c) Direct Action: The central bank can impose penalties or restrictions on banks that do not comply with regulations.
d) Margin requirements refer to the minimum amount of collateral that borrowers must maintain when taking loans, especially for purchasing financial assets like stocks, bonds, or commodities
Direct and Indirect Instruments of Monetary Policy
Direct instruments of monetary policy are tools that allow the Reserve Bank of India (RBI) to directly influence the money supply and liquidity in the banking system without requiring significant action from market participants.
1. Cash Reserve Ratio (CRR)
2. Statutory Liquidity Ratio (SLR)
3. Refinance Facilities
Indirect instruments are market-based tools used by the Reserve Bank of India (RBI) or any central bank to influence liquidity, money supply, and interest rates in the economy. Unlike direct instruments, indirect tools work through market mechanisms rather than imposing strict regulations.
Comparison with Indirect Instruments
Feature | Direct Instruments (CRR, SLR, Refinance) | Indirect Instruments (OMO, Repo, Reverse Repo) |
Control | RBI mandates directly | Works through market forces |
Flexibilit | Less flexible, rigid impact | More flexible, gradual impact |
Implementation | Requires compliance from banks | Work via interest rate signals |
Speed of Effect | Immediates | Slower, depends on market participation |
ANS:D ✅ Tax Rate
✅ A. Cash Reserve Ratio (CRR) – A mandatory reserve banks must hold with the central bank.
✅ B. Open Market Operations (OMO) – Buying and selling government securities to regulate liquidity.
✅ C. Bank Rate – The interest rate at which the central bank lends money to commercial banks.
❌ D. Tax Rate – Not a monetary policy tool! Taxes are part of fiscal policy, controlled by the government to manage revenue and public spending.
D 2024
A central bank can increase money supply in an economy:
1. By raising cash reserve ratio
2. By purchasing government securities from the public
3. By lowering the Cash Reserve Ratio
4. By lowering the repo rate
Choose the correct answer
1. a b c only
2. a b d only
3. b c d only
4. a c d only
Answer: ✅ Option C (b c d only)
❌ (a) Raising the Cash Reserve Ratio (CRR) does NOT increase money supply- Raising CRR actually reduces the amount of money banks can lend, decreasing the money supply.
✅ (b) Purchasing government securities from the public (OMO).– When the central bank buys government securities from banks and the public, it injects liquidity into the banking system, increasing the money supply.
✅ (c) Lowering the Cash Reserve Ratio (CRR)- CRR is the percentage of total deposits that commercial banks must keep with the central bank as reserves. Lowering CRR means banks can lend more money, increasing the money supply.
✅ (d) Lowering the Repo Rate- Lowering the repo rate makes borrowing cheaper for banks, leading to more loans and an increase in money supply.
