MONETARY AND FISCAL POLICY OF INDIA

AGENDA Introduction Monetary Policy

Role & Objectives Instruments Inflation

Fiscal Policy Role & Objectives Budget -> Revenue and Expenditure Taxation -> Structure Fiscal Deficit

Reviews Conclusion

INTRODUCTION

MONETARY POLICY

MONETARY POLICY –MEANING….

Reserve Bank of India states that, Monetary policy refers to the use of instruments under

the control of the central bank to regulate the availability, cost and use of money and credit.

OBJECTIVES Maintaining price stability Ensuring adequate flow of credit to the productive

Sectors of the economy to support economic growth

Rapid economic growth Balance of payment equilibrium Full employment Equal income distribution

METHODS The RBI aims to achieve its objectives of economic growth

and control of inflation through various methods.

These methods can be grouped as: General/ quantitative methods Selective/ qualitative methods

GENERAL/ QUANTITATIVE METHODS These methods maintain and control the total quantity or

volume of credit or money supply in the economy. Open Market Operations

Open market operations indicate the buying/ selling of govt. securities in the open market to balance the money supply in the economy

Deployment of Credit The RBI has taken various measures to deploy credit in different sector of

the economy. The certain %age of the bank credit has been fixed for various sectors like agriculture, export etc.

DIRECT INSTRUMENTSCash reserve ratio (CRR)The money supply in the economy is influenced by CRR. It is the ratio of a bank’s time and demand liabilities to be kept in reserve with the RBI. The RBI is authorized to vary the CRR between 3% and 15%.

Statutory liquidity ratio (SLR): Under SLR, banks have to invest a certain percentage of its time and demand liabilities in govt. approved securities. The reduction in SLR enhances the liquidity of commercial banks.

INDIRECT INSTRUMENTS

Liquidity Adjustment Facility (LAF): Consists of daily infusion or absorption of liquidity on a repurchase basis,

through repo (liquidity injection) and reverse repo (liquidity absorption) auction operations, using government securities as collateral.

1. Repo Rate: Repo rate is the rate at which the RBI lends shot-term money to the

banks against securities. When the repo rate increases borrowing from RBI becomes more expensive. 

• Reverse Repo Rate: The rate at which RBI borrows from commercial banks.

Marginal Standing Facility (MSF): Instituted under which scheduled commercial banks can borrow over night at their discretion up

to one per cent of their respective NDTL at 100 basis points above the repo rate to provide a safety valve against unanticipated liquidity shocks 

Bank rate: Bank Rate is the rate at which central bank of the country  (in India it is RBI)  allows finance to

commercial banks. Bank Rate is a tool, which central bank  uses for short-term purposes. Any upward revision in Bank Rate by central bank is an indication that banks should also

increase deposit rates as well as Base Rate / Benchmark Prime Lending Rate. 

Market Stabilization Scheme (MSS): Liquidity of a more enduring nature arising from large capital flows is absorbed through sale of

short-dated government securities and treasury bills. The mobilized cash is held in a separate government account with the Reserve Bank.

SELECTIVE/ QUALITATIVE MEASURES The RBI directs commercial banks to meet their social obligations through selective/

qualitative measures. These measures control the distribution and direction of credit to various sectors of

the economy.

CEILING ON CREDIT MARGIN REQUIREMENTS DISCRIMINATORY RATES OF INTEREST

FACTORS AFFECTING MONETARY POLICY There exist a non-monetized sector Excess of non-banking financial institutions (NBFI) Existence of unorganized financial market Money not appearing in an economy Time lag affects success of monetary policy Monetary policy and fiscal policy lacks coordination

INFLATION Inflation is broadly understood as the general rise in the

prices of goods and services year on year, inflation is a more complex phenomena associated with the money supply and currency values.

PROBLEMS CAUSED BY INFLATION High and persistent inflation imposes significant socio-economic

costs. High inflation distorts economic incentives by diverting resources

away from productive investment to speculative activities. Inflation reduces households saving as they try to maintain the real

value of their consumption. If domestic inflation remains persistently higher than those of the

trading partners, it affects external competitiveness through appreciation of the real exchange rate.

The Reserve Bank’s current assessment suggests that the threshold level of inflation for India is in the range of 4–6 per cent.

HOW DOES MONETARY POLICY AFFECT INFLATION AND OTHER PROBLEMS?

raisesdecreases

FISCAL POLICY

MEANING Fiscal policy deals with the taxation and expenditure

decisions of the government. These include, tax policy, expenditure policy, investment or disinvestment strategies and debt or surplus management.

- Kaushik Basu ( Former Chief Economic Adviser )

OBJECTIVES OF FISCAL POLICY • Increase in capital formation.• Degree of Growth.• To achieve desirable price level.• To achieve desirable consumption

level.• To achieve desirable employment

level.• To achieve desirable income

distribution.

FISCAL POLICY THERE ARE THREE POSSIBLE POSITIONS A Neutral position applies when the budget outcome has

neutral effect on the level of economic activity where the govt. spending is fully funded by the revenue collected from the tax.

An Expansionary position is when there is a higher budget deficit where the govt. spending is higher than the revenue collected from the tax.

An Contractionary position is when there is a lower budget deficit where the govt. spending is lower than the revenue collected from the tax.

THE TWO MAIN INSTRUMENTS OF FISCAL POLICY Revenue Budget Expenditure Budget

REVENUE BUDGET The taxing Powers of the Central Government encompass

taxes on income,Excise on Goods produced (other than Alcohol), Custom duties and Inter-state sale of Goods

The State Governments are vested with the power to tax Land and Buildings, Sale of Goods (other then Inter-state) and Excise on Alcohol.

Indirect Tax central excise (a tax on

manufactured goods) VAT @ 12.5% service tax @ 12% customs duty Educational cess @ 3%

Direct Tax

Individual Income Tax & Corporate Tax.Wealth Tax @ 1%Tax deducted at source

EXPENDITURE BUDGET The central government is responsible for issues that usually concern the

country as a whole like national defence, foreign policy, railways, national highways, shipping, airways, post and telegraphs, foreign trade and banking.

The state governments are responsible for other items including, law and order, agriculture, fisheries, water supply and irrigation, and public health.

Some items for which responsibility vests in both the Centre and the states include forests, economic and social planning, education, trade unions and industrial disputes, price control and electricity.

THE EXPENDITURE BUDGET INCLUDES FOUR MAIN REVENUE EXPENDITURES Total expenditure is Rs.16,65,297 crores (11.5% increase)

FISCAL DEFICIT Fiscal Deficit = Total Expenditure (that is Revenue

Expenditure + Capital Expenditure) – (Revenue Receipts + Recoveries of Loans + Other Capital Receipts)

Currently the deficit is 5.1 % of GDP

MAJOR CHANGES IN BUDGET(2013-14) TO CURB DEFICIT… One year surcharge of 10 % on the Superrich. Increased Duties on Imported or domestic luxury vehicles

such as SUV’s, Mobiles (>Rs.2000), set top boxes, A/c restaurants and Cigarettes.( bring in Rs.18,000 crores)

Disinvestment Proceedings to be around Rs.55,000 Crore for this fiscal.

No additional subsidy for fuel, food and fertilizer prices. Buyers of immovable property other than agriculture land

will have to pay a tax of 1% of the sale where the value exceeds Rs.50 lakh.

CONCLUSION Fiscal deficit Current account deficit Currency depreciation Lower growth Supply side gap in Food (inflation) Only 42800 earn more than 1 crore and 1.9 lakh people earn

more than 10 lakhs!!!!!!

REVIEWSSubbarao, RBI Governor (2012) explained that, India is unique in the

sense that we are one of the economies in the world that is supply constrained. There is shortage of infrastructure both in quantum and quality. We need to improve that so that corporates become more competitive, so that economic production becomes more competitive. First on infrastructure, second, we need to improve supply of food, especially of protein foods. Third, is skilled labour. It is one thing to have a huge labour force but another to have a labour force that is not adequately skilled. The skill shortage is going to be a big threat.

Bhatt (2012) suggested that the need of today is not just the pumping of liquidity in to the Indian economy but also in addition the injection of demand. This can occur only through direct fiscal action by government. In India, larger government expenditure has to be oriented towards agriculture, rural development, health, human resources and infrastructure to make inclusive and balanced growth.

Thank YouSai Teja -1113218Bhargav Santhosh - 1113262