MODULE 3

INTRODUCTION
It

is the central bank of India.

Established

on 1 April 1935 under the

RESERVE BANK OF INDIA ACT, 1934.

Its

headquarter is in Mumbai(Maharashtra

Its

present governor is Urjit Patel.

OFFICES & BRANCHES

Central

Office, Mumbai.

Four Regional offices

(Mumbai, Delhi,
Chennai, Kolkata)
24 Sub offices/Branches
RBI have Offices in 22 States.

BRIEF HISTORY OF RBI

It was set up on the recommendations of the

HILTON YOUNG COMMISSION.

It was started as share-holders bank with a paid

up capital of 5 Corers.

Initially it was locates in Kolkata.

It moved in Mumbai in 1937.

Initially it was private owned.

FUNCTIONS OF RBI
Monetary
Authority

Bankers to
Government

Issuer of
Currency

Banker to
Banks

Manager Of
Foreign
Exchange

Regulator And
Supervisor Of
Financial
System

Regulator and
supervisor of
payment and
settlement systems

Developmental
Role

FORMULATE MONETRY POLICY

Objectives: Maintain

price stability,

Ensuring adequate flow of credit in the

economy & Financial stability.

what RBI does

It

formulates, implements and monitors of

the monetary policy.

Instruments:

Direct instruments.

Direct Instruments

CRR

Cash Reserve
Ratio

SLR

Statutory
Liquidity Ratio

CRR or cash reserve ratio is the minimum proportion /

percentage of a bank's deposits to be held in the form
of cash. Banks actually don't hold these as cash with
themselves, but deposit the same with RBI / currency
chests, which is considered equivalent to holding cash
with themselves.
SLR or statutory liquidity ratio is the minimum
percentage of deposits that a bank has to maintain in
form of gold, cash or other approved securities

Banker and Debt Manager to

Governments

Maintains Central Govt.s

accounts, receives money
into and makes payments
out of these accounts.
Facilitates transfer of
Govt. funds.
Banker to State
Governments based on
agreement.
Manages the
governments domestic
debt.
Develops market for govt.
securities.

Banker to central
government
(section 20, 21)
Banker to state
government on
agreement
(Section 21A)

Issuer of Currency

Objective: To ensure adequate quantity of

supplies of currency notes and coins of good

quality.
What RBI does..

Issues new currency and destroys currency and

coins not fit for circulation.

It has to keep in forms of gold and foreign

securities as per rules against notes & coins issued.

Banker to Banks
Maintains
banking
accounts of all
scheduled
banks.

Custodian of
cash reserve
of commercial
banks

Acting as a lender
of last resort.

Manager of Foreign Exchange

Objective: to facilities external trade and payment

and promote orderly development and
maintenance of foreign exchange market in India.

What RBI does.

It acts as a custodian and manages the foreign

exchange.

RBI buys and sells foreign currencies to maintain

the exchange ate of Indian rupee v/s foreign
currencies like that us dollar, euro, pound sterling
and Japanese yen.

Managing the foreign currency assets and gold

reserves of the country.

Regulate & supervise the

financial system

Objective: To maintain public confidence in the

system, protect depositor interest & provide
cost effective banking service to the public.

What RBI does..

Prescribes broad parameters of banking

operations within which the Country's banking
& financials System functions.

The RBI performs this function under the

guidance board for financial supervision.

DEVELOPMENTAL ROLE

Objective: to develop the quality of

banking system in India.

What RBI does..

Performs a wide range of promotional

function to support national objectives.

To establish financial institutions of national

importance, for e.g. : NABARD, IDBI, etc.

Financial Inclusion and Literacy

RBI
Young
Scheme.

Scholar

Comic
books
on
financial
matters,
conducting
quiz
program.
Outreach programs in
villages.
Advertisement.
Films on features of
genuine currency notes.

CREDIT CONTROL

Credit Control is an important tool used by Reserve

Bank of India, a major weapon of the monetary
policy used to control the demand and supply of
money (liquidity) in the economy.
Credit control is a very important function of RBI as
the Central Bank of India. For smooth functioning of
the economy RBI control credit through quantitative
and qualitative methods. Thus, the RBI exercise
control over the credit granted by the commercial
banks.

Need for Credit Control

Controlling credit in the Economy is amongst the most important
functions of the Reserve Bank of India. The basic and important
needs of Credit Control in the economy are To encourage the overall growth of the priority sector i.e. those
sectors of the economy which is recognized by the government as
prioritized depending upon their economic condition
or government interest. These sectors broadly totals to around 15
in number.
To keep a check over the channelization of credit so that credit is
not delivered for undesirable purposes.
To achieve the objective of controlling Inflationas well as
Deflation.
To boost the economy by facilitating the flow of adequate volume
of bank credit to different sectors.
To develop the economy.

Inflation means, a rise in general level of prices of

goods and services in a economy over a period of
time. When the general price level rises, each unit
of currency buys fewer goods and services. Thus,
inflation results in loss of value of money.
Deflation is the opposite of inflation. Deflation
refers to situation, where there is decline in general
price levels. Thus, deflation occurs when the
inflation rate falls below 0% (or it is negative
inflation rate). Deflation increases the real value of
money and allows one to buy more goods with the
same amount of money over time.

Methods of Credit Control

There are two methods that the RBI uses to control the money
supply in the economy Qualitative Method
Quantitative Method
During the period of inflation Reserve Bank of India tightens
its policies to restrict the money supply, whereas
during deflation it allows the commercial bank to
pump money in the economy.
Qualitative

Method

By Quality we mean the uses to which bank credit is directed.

It includes;

Marginal Requirement
Marginal Requirement of loan = current value of security offered
for loan-value of loans granted. The marginal requirement is
increased for those business activities, the flow of whose credit is
to be restricted in the economy.
e.g.- a person mortgages his property worth Rs. 1,00,000 against
loan. The bank will give loan of Rs. 80,000 only. The marginal
requirement here is 20%.
In case the flow of credit has to be increased, the marginal
requirement will be lowered. RBI has been using this method
since 1956.
Rationing of credit
Under this method there is a maximum limit to loans and
advances that can be made, which the commercial banks cannot
exceed. RBI fixes ceiling for specific categories. Such rationing
is used for situations when credit flow is to be checked,
particularly for speculative activities.

Direct Action
Under the banking regulation Act, the central bank has the
authority to take strict action against any of the commercial
banks that refuses to obey the directions given by Reserve
Bank of India. There can be a restriction on advancing of loans
imposed by Reserve Bank of India on such banks.

Moral Suasion
This method is also known as Moral Persuasion as the
method that the Reserve Bank of India, being the apex bank
uses here, is that of persuading the commercial banks to follow
its directions/orders on the flow of credit. RBI puts a pressure
on the commercial banks to put a ceiling on credit flow
during inflation and be liberal in lending during deflation.

 Quantitative

Methods

Lending Rate:

Lending rates are the ratios fixed by RBI to lend the money to the
customers on the basis of those rates. The higher the rate means the
credit to the customers is costlier. The lower the rate means the credit
to the customers is less which will encourage the customers to borrow
money from the banks more that will facilitate the more money flow in
the hands of the public.

Repo Rate:
Repo rate is the rate at which banks borrow funds from the RBI to
meet the gap between the demand they are facing for money (loans)
and
how
much
they
have
on
hand
to
lend.

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.

Reverse Repo Rate:

The rate at which RBI borrows money from the banks (or
banks lend money to the RBI) is termed the reverse repo rate.
The RBI uses this tool when it feels there is too much money
floating in the banking system.
If the reverse repo rate is increased, it means the RBI will
borrow money from the bank and offer them a lucrative rate
of interest. As a result, banks would prefer to keep their
money with the RBI (which is absolutely risk free) instead of
lending it out (this option comes with a certain amount of
risk)

CRR(Cash Reserve Ratio): All commercial banks are

required to keep a certain amount of its deposits in cash with
RBI. This percentage is called the cash reserve ratio. The
current CRR requirement is 8 per cent. This serves two
purposes. It ensures that a portion of bank deposits is totally
risk-free and secondly it enables that RBI control liquidity in
the system, and thereby, inflation by tying their hands in
lending money.
SLR(Statutory Liquidity Ratio): Banks in India are required
to maintain 25 per cent of their demand and time liabilities in
government securities and certain approved securities. What
SLR does is again restrict the banks leverage in pumping more
money into the economy by investing a portion of their
deposits in government securities as a part of their statutory
liquidity ratio requirements.

PRIORITY SECTOR LENDING BY RBI

Priority sector refers to those sectors of the economy
which may not get timely and adequate credit in the
absence of this special dispensation by the law.
Typically, these are small value loans to farmers for
agriculture and allied activities, micro and small
enterprises, poor people for housing, students for education
and other low income groups and weaker sections.
Priority Sector includes the following categories:
(i) Agriculture
(ii) Micro and Small Enterprises
(iii) Education
(iv) Housing
(v) Export Credit
(vi) Others

AGRICULTURE
The priority sector, agriculture is being financed in the
following manner;
Short-term loans for raising crops, i.e. for crop loans. This
will include traditional/non- traditional plantations and
horticulture.
Advances up to Rs. 10 lakh against pledge/hypothecation of
agricultural produce (including warehouse receipts) for a
period not exceeding 12 months, irrespective of whether the
farmers were given crop loans for raising the produce or not.

Working capital and term loans for financing production and

investment requirements for agriculture and allied activities.

Loans to small and marginal farmers for purchase of land for

agricultural purposes

SMALL SCALE INDUSTRIES

Finance in the small scale industry sector will include credit to:
Small Scale Units
All those units engaged in the manufacture, processing or
preservation of goods and whose investment in plant and
machinery (original cost) excluding land and building does not
exceed Rs. 5 crore.
Micro Enterprises
Small scale units whose investment in plant and machinery
(original cost) excluding land and building is up to Rs. 25 lakh,
irrespective of the location of the unit, are treated as Micro
Enterprises.
KVI Sector All advances granted to units in the KVI sector,
irrespective of their size of operations, location and amount of
original investment in plant and machinery.

SMALL BUSINESS / SERVICE ENTERPRISES

Loans granted to small business and service enterprises such
as, Small Road and Water Transport Operators, Small
Business, Professional & Self Employed Persons, etc.
engaged in providing/rendering of services and whose
investment does not exceed Rs. 2 crore.

Advances granted to retail traders dealing in essential

commodities (fair price shops), consumer co-operative stores,
and;

Advances granted to private retail traders with credit limits

not exceeding Rs. 20 lakh.

MICRO CREDIT
Loans of very small amount not exceeding Rs. 50,000 per borrower,
provided by banks to the poor in rural, semi-urban and urban areas, either
directly or through a group mechanism, for enabling them to improve
their living standards.
EDUCATION
Educational loans should include only loans and advances granted to
individuals for educational purposes up to Rs. 10 lakh for studies in India
and Rs. 20 lakh for studies abroad, and not those granted to institutions.
HOUSING
Loans up to Rs. 15 lakh, irrespective of location, for construction of
houses by individuals, excluding loans granted by banks to their own
employees.
Loans given for repairs to the damaged houses of individuals up to Rs.
1 lakh in rural and semi-urban areas and up to Rs. 2 lakh in urban
areas.

SELECTIVE CREDIT CONTROL

Selective credit control is a tool in the hands of Reserve Bank
of India to restrict bank finance against sensitive commodities.
These sensitive commodities generally include:
(i) Food grains i.e., cereals and pulses.
(ii) Cotton textiles,
(iii) Selected major oil seeds indigenously grown viz.
groundnut, mustard, cottonseed and all imported oils and
vegetable oils.
(iv) Sugar
(v) Raw cotton

All these commodities, as would be observed, are of mass

consumption and Government makes all efforts to ensure
adequate supply of these commodities in the free market. The
policy, therefore, is to discourage advances against these
commodities as far as possible and the purpose is achieved
through Selective Credit Control, which has two different
aspects as under:
(i)
Minimum margin for lending against security of
specified commodities is fixed.
(ii)
Ceiling on the level of credit is fixed.
Selective credit control on all the commodities were withdrawn
by RBI with effect from 21st October, 1996.