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“In Inflation everything gets more valuable except money” : 

“In Inflation everything gets more valuable except money”

Inflation Is An Account Of Flawed Monetary Policies : 

Inflation Is An Account Of Flawed Monetary Policies

Definition : 

Inflation is a rise in the general level of prices of goods and services in an economy over a period of time. Too much money chasing few goods Definition

Tools to measure inflation : 

Two major tools…. 1. W.P.I Wholesale Price Index It is based on 465 specified consumer goods. 2. C.P.I Consumer Price Index It is based on consumer itself. Tools to measure inflation

Wholesale Price Index (WPI) : 

Wholesale Price Index (WPI) Captures the price of goods at the wholesale level procured by the shopkeeper. Does not include services and non-tradable commodities. WPI Basket can be divided into three groups having different weights: Manufactured goods (63.75%), Primary produces (22%) and energy (14.25%)

Slide 8: 

Available on a weekly basis, with a shorter time lag of two weeks. In India, we rely on WPI to measure inflation.

Consumer Price Index (CPI) : 

Consumer Price Index (CPI) Captures the price of goods and services at the consumer level. In India, we have four CPI indices for four different groups: CPI for agricultural labourers, rural labourers, industrial workers, and urban non-manual employees. Are available on a monthly basis, after a much longer time lag compared to WPI. The US relies on the CPI to measure inflation.

Why is WPI preferred over CPI? : 

Why is WPI preferred over CPI? It is available on a weekly basis, with a shorter time lag of two weeks. CPI index uses different baskets of goods and services which reflect the consumption pattern of different groups of consumers. Different indices may show different patterns of increase in prices.

Monetary Policy : 

Monetary Policy Definition: Monetary policy is the process by which the government, central bank, or monetary authority of a country controls (1) the supply of money, (2) availability of money, and (3) cost of money or rate of interest, in order to attain a set of objectives oriented towards the growth and stability of the economy. A policy is referred to as contractionary if it reduces the size of money supply or raises the interest rate. A policy is referred to as expansionary if it increases the size of the money supply, or decreases the interest rate.

“RBI ka usool” : 

“RBI ka usool” “…. To regulate the issue of Bank Notes and keeping of reserves with a view to securing monetary stability in India and generally to operate the currency and credit system of the country to its advantage.” Elements of financial system-British rule-1757 to 1947 Rbi-1935-Pvt bank, 1949- Nationalized, broader scope Major initiatives of RBI were to: Credit to industry, agriculture and small business Penetrating rural areas, promoting agricultural and industrial credit , Fostering savings through deposit insurance & postal schemes Credit guarantee corporations to cover loans to small traders , transporters ; and self employed people. Nationalized 14 major pvt. Banks in 1969 & 6 more in 1980 Branches exploded from 7000 in 1969 to 60000 in 1994

“Dada's & their dadagiri………….” : 

“Dada's & their dadagiri………….” M D Patra: develop money markets, setup National Housing Bank, catalyze the flow of credit through commercial banks. U S Pailiwal: adopt IMF stabilization program, Rupee being devalued, launch the programme of economic reforms. S V Raghavan: introductions of new institutions & instruments, establishing unified exchange rate, historic memo – between bank & govt – cap – adhoc treasure bills. Salim Gangabharan: weathering Asian crisis, improving transparency & central bank communications, strengthening BOP&FOREX, low inflation & soft interest rates.

What are the objectives of Indian monetary policy ? : 

What are the objectives of Indian monetary policy ? Maintain price stability Flow of credit to the productive sectors of the economy. Stability for the national currency Growth in employment and income

What are the tools of Indian monetary policy ? : 

What are the tools of Indian monetary policy ? OMO CRR REPO SLR BANK RATE

Evolution Of Monetary Policy In INDIA : 

Evolution Of Monetary Policy In INDIA After the crisis in 1991 , stabilization went simultaneously with structural reforms Change in context fundamentally altered the manner in which monetary policy began to be formulated Macroeconomic and price stability received greater emphasis . Continuous rebalancing of priority between growth and price stability Financial stability ascended the hierarchy of monetary policy objectives in mid 1990s.

Cont….. : 

Cont….. The operating framework of monetary policy formation underwent a transformation during the 1990 In mid 1990s RBI switched to a multiple indicator approach Administered interventions in 1970s and 1980s Monetary target feedback in early 1990s

Monetary changes : 

Monetary changes Growing market orientation of monetary From direct to more indirect and market – based monetary policy measures Initially CRR and SLR requirements locked away nearly 70 per cent of bank deposits The SLR was brought down from 38.5 per cent of in early 1992 to 25 per cent in mid -1994 CRR reduced to 5 per cent from 15 per cent after 1991.

CONT…… : 

CONT…… Interest rate deregulation was initiated after 1990 1990 1994 1995-97 2003 All sectors Specific interest rate Prescription Were abolished The minimum Rate prescription Withdrawn bank free To charge PLR The ceiling on Rates on deposits were removed Banks were advised to announce a benchmark PLR

Impact on Economy : 

Impact on Economy Inflation: 25 bps hike in REPO rate by RBI to limit the Inflation to 5-5.5% Interest Rate: Hike in REPO rate signals hike in interest rates a year govt. sec would expected to lie in the range of 7-8% at the end of the fiscal year. Exchange Rate: Hike in REPO rate is not expected to impact the exchange rate directly

Impact on financial Services : 

Impact on financial Services Increases in term deposits Increases in industrial credit as well as overall credit Increases in provisioning requirements for standard assets of banks Reduction in interest rates ceilings on NR(E)Ra and FCNR(B) deposits FCNR(B): Foreign Currency Non-Resident (Banks). NR(E) RA: Non-Resident (External) Rupee Accounts.

Third quarter review of Monetary policy 2006 : 

Third quarter review of Monetary policy 2006 GDP was raised from 8% Two stage hike in CRR Further hike in REPO rate due to increased cash flow LAF Increase in reserves Increase in net foreign assets Inflation was largely due to primary sector Oil prices stabilized towards the end of the financial year

Monetary Policy for 07-08 : 

Monetary Policy for 07-08 Decline in GDP growth projection. No change in major rates Basic objective is price Stability Growth has been given a Chance Expected future hike in C.R.R Housing loans Liberalization of FOREX

“The whole thing is that ke bhaiya sabse bada rupaiya : 

“The whole thing is that ke bhaiya sabse bada rupaiya

Indian Interest Rates : 

Indian Interest Rates

Cash Reserve Ratio (CRR) : 

Cash Reserve Ratio (CRR) All scheduled commercial banks are required to maintain a fortnightly average daily cash reserve equivalent with RBI. RBI is empowered to vary this ratio between 3 and 15 per cent. Increase in CRR means that banks have less funds available and money is sucked out of circulation.

Repo Rate / Bank Rate : 

Repo Rate / Bank Rate REPO RATE is the rate at which the RBI lends short-term money to the banks. BANK RATE is the rate at which the RBI lends money to other banks or financial institutions. Expansionary Policy – RBI lowers repo/bank rate Contractionary Policy- RBI raises repo/bank rate

Open Market Operations : 

Open Market Operations The buying or selling of bonds by the RBI in the open market Expansionary Policy- RBI buys bonds (gives banks new reserves) Contractionary Policy- RBI sells bonds (drains reserves from banks)

Statutory Liquidity Ratio : 

Statutory Liquidity Ratio The ratio of liquid assets to demand and time liabilities is known as Statutory Liquidity Ratio. Present SLR is 25%, RBI is empowered to increase this ratio upto 40%. An increase in SLR also restrict the bank’s leverage position to pump more money into the economy.

Conclusion : 

Conclusion The Reserve Bank of India (RBI) released its Annual Monetary Policy Statement for 2007-08 on April 24, 2007 in which it clearly laid out its dominant objectives – to manage the surging capital inflows and contain inflation. On both counts there is a confrontation between the RBI and the Ministry of Finance and monetary policy is compromised as a result.

Slide 31: 

If monetary policy is to contain any semblance of inflation fighting, then the short-term interest rate in the economy has to exceed two percent in real terms. In other words, the short-term interest rate must exceed 11%. This simple calculation tells us that RBI has been behind the curve in understanding and attacking inflation.

Slide 32: 

RBI has acted too little and too late. Inflation spiked up in December 2007, but in early 2008, RBI was pursuing the policy of buying USD on a massive scale, injecting rupees in the economy, and driving down interest rates in the local economy. Even now - a full eight months into the inflation crisis - policy rates remain negative in real terms. So while there is a lot of hawkish talk from RBI, we should remain skeptical about the extent to which RBI is actually concerned about inflation.

Slide 33: 

“Inflation is when you pay Rupee Five hundred for the Rupee Hundred haircut you used to get for Rupee fifty when you had hair.”

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