MON. & FIS

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Monetary & Fiscal Policy Prof. Parulm Gupta 1

MONETARY ANDMONETARY ANDFISCAL POLICYFISCAL POLICY

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Monetary PolicyMonetary

Policy

The objective of monetary policy hasbeen clearly enunciated as pricestability while ensuring provision of

adequate credit for productive purposes. The main contribution of monetary policy

to poverty alleviation is thus ensuring

price stability in a growth-environment

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Fiscal PolicyFiscal Policy

An important area of overlapbetween financial sector and fiscalpolicy relates to taxation as also tax

exemptions or concessions tofinancial instruments andinstitutions. To the extent tax free

status is given to a large segment offinancial instruments .

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MONETARY POLICYMONETARY POLICYREFORMSREFORMS

Objectives

Price stability

Ensuring adequacy of credit to support

growth Financial Stability

Instruments

Move from direct to indirect instruments

LAF ( Liquidity Adjustment Facility )

OMO (open market operation)

MSS ( Market Stabilisation Scheme )

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Developmental MeasuresDevelopmental Measures1. Discontinuation of automatic monetisation through

an agreement between the Government and the CentralBank. Rationalisation of Treasury Bill market.Introduction of delivery versus payment system anddeepening of inter-bank repo market.

2. Introduction of Primary Dealers in the governmentsecurities market to play the role of market maker.3. Amendment ofSecurities Contracts Regulation Act

to create the regulatory framework.4. Deepening of government securities market by

making the interest rates on such securities marketrelated.

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Introduction of auction of governmentsecurities. Development of a risk-free credibleyield curve in the government securities market as

a benchmark for related markets. Development of pure inter-bank call money

market. Non-bank participants to participate inother money market instruments.

Introduction of automated screen-based

trading in government securities throughNegotiated Dealing System (NDS). Setting upof risk-free payments and system in governmentsecurities through Clearing Corporation of IndiaLimited (CCIL). Phased introduction of Real Time

Gross Settlement (RTGS) System. Deepening of forex market and increased

autonomy of Authorised Dealers.

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Among the measures taken in thisAmong the measures taken in thisdirection, aredirection, are

elimination of system of automatic

monetisation of budget deficit, clearer delineation of roles between theReserve Bank of India (RBI) and Government infinancing of development by keeping levels ofmonetisation consistent with inflation and

growth objectives, reduction in fiscal dominance by attempting

to reduce deficits, and improvements inmonetary policy-transmission, through marketintegration as part of financial sector reforms,

especially in banking sector.The implications of each of these measures in terms

of changing expectations on the role of the RBI,perhaps need to be detailed.

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4. cross-subsidisation4. cross-subsidisation

In the past as part of the regime of administeredinterest rates, the banking and financial institutionswere providing loans on concessional terms tocertain sectors and also certain categories of

borrowers, leading to cross-subsidisation. The creditallocation by banks was also directed to many suchsectors/borrowers through various targetprescriptions.

Thus, while discontinuing Funds, net transfer of profitsof the RBI as dividend has increased from Rs.200 crorein 1991-92 to Rs. 2,000 crore in 1998-99.

No doubt, there still exists flow of concessional funds underGeneral Line of Credit (GLC) for rural development.Thus, the overall responsibility and accountability in regardto use of such monetised resources have been clearlydelineated.

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5.Modified interest rate5.Modified interest rateprescriptionsprescriptions

the RBI has introduced modified interestrate prescriptions, linking concessionality

to size of credit limits, rather than tospecified sectors or groups of borrowers.Thus, for small borrowers with credit limitsup to Rs.2 lakh, the maximum rate

applicable is Prime Lending Rate (PLR),which is the rate charged for the bestborrowings by a bank.

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Conclusion

In brief, monetary policy is increasinglyfocused on efficient discharge of its

objectives, that no doubt help povertyalleviation, albeit indirectly, while the moredirect attack on poverty alleviation wouldrightfully be the preserve of fiscal policy,

aided by conducive monetary and financialconditions

MON. & FIS

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