The Reserve Bank of India was set up in the year ____________.

Correct option is A

•  The Reserve Bank of India (RBI) was established on April 1, 1935, under the provisions of the Reserve Bank of India Act, 1934.
•  Initially, the RBI was privately owned but was nationalized in 1949 after India's independence.
•  The RBI serves as the central bank of India and is responsible for regulating the monetary policy of the Indian rupee and supervising the financial system.

Information Booster:

Monetary Policy Tools

Monetary policy refers to the actions taken by a country’s central bank or monetary authority (like the Reserve Bank of India or Federal Reserve in the United States) to regulate the money supply, control inflation, and stabilize the economy. The central bank uses various monetary policy tools to influence economic activity, inflation, and employment.

Here are the key monetary policy tools:

1. Open Market Operations (OMOs)

• Definition: Open Market Operations refer to the buying and selling of government securities (bonds) in the open market by the central bank.

• Purpose: OMOs are used to regulate the money supply in the economy. By buying securities, the central bank injects money into the banking system (expansionary policy), and by selling them, it takes money out of circulation (contractionary policy).

• Example: If the central bank wants to increase the money supply, it will buy government bonds from the market. Conversely, to reduce the money supply, it will sell government bonds.

2. Reserve Requirements (Cash Reserve Ratio - CRR and Statutory Liquidity Ratio - SLR)

• Definition: Reserve requirements are the minimum reserves that commercial banks must hold against their deposits.

  • Cash Reserve Ratio (CRR): The percentage of a bank's total deposits that it must keep as reserves with the central bank in the form of cash.

  • Statutory Liquidity Ratio (SLR): The percentage of a bank's net demand and time liabilities (NDTL) that it must keep in the form of liquid assets (such as gold, government securities).

• Purpose: By changing these ratios, the central bank can directly affect the amount of money that banks can lend. Lowering the CRR/SLR increases the bank’s lending capacity, while raising it reduces lending.

• Example: If the central bank reduces the CRR, banks will have more money available to lend to customers, thus increasing the money supply.

3. Repo Rate and Reverse Repo Rate

• Definition:

  • Repo Rate: The rate at which commercial banks borrow short-term funds from the central bank by selling government securities to the central bank with an agreement to repurchase them later.

  • Reverse Repo Rate: The rate at which the central bank borrows money from commercial banks, i.e., the rate at which the central bank accepts deposits from banks.

• Purpose:

  • The repo rate is used to control inflation. A higher repo rate makes borrowing more expensive for banks, thus reducing the money supply and inflation.

  • The reverse repo rate is used to manage liquidity. A higher reverse repo rate encourages banks to park their excess funds with the central bank, which can help manage inflation and money supply.

• Example: To combat inflation, the central bank may increase the repo rate, making it more expensive for commercial banks to borrow money.

4. Discount Rate

• Definition: The discount rate is the interest rate charged by the central bank to commercial banks for borrowing short-term funds.

• Purpose: By changing the discount rate, the central bank influences the cost of borrowing for commercial banks. A lower discount rate encourages borrowing, increasing money supply, while a higher discount rate restricts borrowing and decreases money supply.

• Example: When the central bank lowers the discount rate, it encourages banks to borrow more, thus increasing liquidity in the economy.

5. Bank Rate

• Definition: The bank rate is the rate at which the central bank lends to commercial banks without any collateral (in contrast to the repo rate which is collateralized).

• Purpose: The bank rate is another tool used to influence inflation and economic activity. A lower bank rate encourages borrowing by commercial banks, thus increasing the money supply, while a higher bank rate restricts borrowing.

• Example: A central bank may raise the bank rate to make borrowing more expensive, thereby reducing inflationary pressures.

6. Liquidity Adjustment Facility (LAF)

• Definition: The Liquidity Adjustment Facility allows commercial banks to borrow money from the central bank overnight, using government securities as collateral.

• Purpose: It helps manage short-term liquidity in the banking system. The repo rate and reverse repo rate are part of the LAF.

• Example: If there is excess liquidity in the system, the central bank may increase the reverse repo rate, encouraging banks to deposit funds with it and thus reducing liquidity.

7. Quantitative Easing (QE)

• Definition: Quantitative Easing is a non-conventional monetary policy tool used by central banks to inject money into the economy when short-term interest rates are already near zero.

• Purpose: QE involves the central bank buying longer-term securities, such as government bonds or mortgage-backed securities, to increase the money supply and lower long-term interest rates, stimulating borrowing and spending.

• Example: The Federal Reserve used quantitative easing extensively after the 2008 financial crisis to revive the U.S. economy.