Friday, April 27, 2007

Annual Monetary Policy for Dummies: By a Dummy

I'm having nasty nightmares again. Last time it was because I was trying to understand our Union Budget. This time it's because of the annual monetary policy by RBI. Read this:

RBI kept key rates and its monetary stance unchanged while maintaining a
cautious outlook, and reitirated that inflation continued to be a downside risk,
retaining elbow room for further intervention if and when required. Phew!!

The only thing I could make out is that the Governor should take training with a Superman. So many things to do!! This takes me to the beginning of my many questions. Two of them are in this post.

1. What is the RBI's role?
I mean that the Indian Government is responsible for the economic progress of India. So, why is the role given to RBI for the monetary policy? And, what else does RBI do?

Apart from inflation control, RBI also has to regulate the banks, print money, regulate the Government Bonds market, decide on Foreign exchange regulations, etc. And to achieve whatever they want to, they have one tool: The Monetary policy! (head on to Ajay Shah's blog for an expert's view)

2. What are the factors that influence the policy?
We are bombarded with jargons like SLR, CRR, Exchange rate, Repo rate, etc. To understand what they mean, we should first understand the factors that influence the above rates decisions. Yes, inflation is one of them.
  • Manufacturing and Industrial growth: Earlier we needed to increase growth (popularly known as GDP growth) by our monetary policy. Presently we need to maintain them.
  • Foreign Trade: The policy should take a look at the present exports and imports and specially the Oil imports. The exchange rates have a huge bearing on the export/imports.
  • Credit growth: RBI has to worry about high growth in non-food credit. It has a bearing on the money supply.
  • Inflation: Yes,inflation too! Infact this was the only thing I knew much before getting into this thing.

So now when you hear that RBI has changed the repo rate or the reverse repo rate, we know the factors that influenced the decision. Maybe this will help us in understanding the rates decisions better. Bring on the SLRs, CRRs, Repo, Reverse repo!! That will have to wait for another post.

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