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MONETRY AND FISCAL POLICY, UNION BUDGET, STATE BUDGET AND FINANCE COMMISIONCONTENTMonetary policyis the process by which monetary authority of a country, generally a central bank controls the supply of money in the economy by exercising its control over interest rates in order to maintain price stability and achieve high economic India, the central monetary authority is the RBI.

MONETRY POLICYThe money supply or money stock, is the total amount of monetary assets available in an economy at a specific time.M1: Usually described as the money supply. (currency with the public - notes & coins in circulation) and deposits demand deposits with bank & other deposits with RBI.M2:M1+Post office savings bank deposits.M3:M1+Time deposit with the bank. ( i.e. Money Supply + FD with Banks)M4:M3+Total Post office deposits.

MEASURE OF MONEY STOCKMoney supply comprises currency with the public and demand deposits.The budgetary operation of the government affect money supply. If govt. meets its budgetary deficit by borrowing from RBI , there will be an increase in money supply.Demand deposit are important determinant of money supply which may originate in two ways active or passive creation. Passive creation takes place when bank opens deposit account against cash or check drawn on other banks. Active creation takes place when banks create deposit by extending credits.Central banking instruments operate by varying the cost and availability of credit and these produce desired changes in patterns of commercial banks. The capacity of banks depends upon their cash reserves , a substantial portion of reserves being generally held in form of balances with RBI.

MONETARY POLICY AND MONETARY SUPPLY5General Methods (Quantitative Methods) - Affect total quantity of credit and affect economy generallySelective Methods (Qualitative Methods)- Affect certain select sectors

INSTRUMENTS OF MONETARY POLICYGeneral credit controlsBank rate policyOpen market operationVariable Reserve RatioSLRSelective Credit RegulationMoral Suasion

INSTRUMENTS OF MONETARY POLICYThe bank rate, also known as the discount rate, is the rate of interest charged by the RBI for providing funds or loans to the banking system. This banking system involves commercial and co-operative banks, Industrial Development Bank of India, EXIM Bank, and other approved financial institutes. Funds are provided either through lending directly or buying money market instruments like commercial bills and treasury bills. Increase in Bank Rate increases the cost of borrowing by commercial banks which results into the reduction in credit volume to the banks and hence declines the supply of money. Increase in the bank rate is the symbol of tightening of RBI monetary policy. As of 1 January 2013, the bank rate was 8.75% and from August 2013 bank rate is 10.25%Bank Rate Policy Lender of last resortEvery financial institute have to maintain a certain amount of liquid assets from their time and demand liabilities with the RBI. These liquid assets can be cash, precious metals, approved securities like bonds etc.

The ratio of the liquid assets to time and demand liabilities is termed asStatutory LiquidityRatio There was a reduction from 38.5% to 25%.The current SLR is 23%.

Statutory Liquidity Ratio

Cash Reserve Ratio is a certain percentage ofbank deposits which banks are required to keep with RBI in the form of reserves or balances .Higher the CRR with the RBI lower will be theliquidityin the system and vice-versa.RBI is empowered to vary CRR between 15 percent and 3 percent. As of January 2013, the CRR is 4.00 percent.[Cash Reserve Ratio or Variable Reserve Ratio

Repo rate is the rate at which RBI lends to commercial banks generally against government securities. Reduction in Repo rate helps the commercial banks to get money at a cheaper rate and increase in Repo rate discourages the commercial banks to get money as the rate increases and becomes expensiveRepo Rate

Reverse Repo rate is the rate at which RBI borrows money from the commercial banks. The increase in the Repo rate will increase the cost of borrowing and lending of the banks which will discourage the public to borrow money and will encourage them to deposit.

As the rates are high the availability of credit and demand decreases resulting to decrease ininflation. This increase in Repo Rate and Reverse Repo Rate is a symbol of tightening of the policy. As of October 2011, the repo rate is 8.25 and reverse repo rate is 7.25Reverse Repo RateSelective methods of credit control regulate the use of credit by discriminating between essential and non-essential purposes. The central bank may prohibit or caution banks against particular type of securities. May prescribe margins against secured advances. Selective Credit ControlsThe RBI can issue directives to banks in respect of : 1) Their lending policies the purpose for which advances may or may not be granted. 2) The margins to be maintained on secured advances3) The rate of interest charged. Qualitative Control MeasuresMoral persuasion and direct action - When commercial banks pursue an unsound credit policy or borrow excessively, the RBI may refuse to grant loans. The RBI may charge penal rate of interests direct actionMoral persuasion involves persuading the banks not to ask for further loans. Moral SuasionFISCAL POLICY"Fiscal policy is the part of the government policy which is concerned with the raising revenue through taxation and other means to decide on the level and pattern of expenditure It operates through budget which is estimate of government revenue and expenditure for financial year.

16DefinitionFiscal Policy is the main part of Economic Policy and Fiscal Policy's first word Fiscal is taken fromFrenchword Fisc it means treasure of Govt. So we can define fiscal policy as the revenue and expenditure policy of Govt. of India .It is prime duty of Government to make fiscal policy . By making this policy , Govt. collects money from his different resources and utilize it in different expenditure . Thus fiscal policy is related to development policy . All welfare projects are completed under this policyDevelopment of Country EmploymentReduction of Inequality

OBJECTIVE OF FISCAL POLICYTechniques of Fiscal PolicyTaxation Policy

If Govt. will increase taxes , more burden will be on the public and it will reduce production and purchasing power of public .

If Govt. will decrease taxes , then public's purchasing power will increase and it will increase the inflation.

Govt. Expenditure Policy

There are large number of public expenditure like opening of govt schools , colleges and universities , making of bridges , roads and new railway tracks . In all above projects govt has paid large amount for purchasing and paying wages and salaries all these expenditure are paid after making govt. expenditure policy . Govt. can increase or decrease the amount of public expenditure by changing govt. budget . So , govt. expenditure is technique of fiscal policy by using this , govt. use his fund first on very necessary sector and other will be done after this .

3. Deficit Financing Policy

If Govt.'s expenditures are more than his revenue , then govt. should have to collect this amount . This amount is deficit and it can be fulfilled by issuing new currency by central bank of country . But , it will reduce the purchasing power of currency . More new currency will increase inflation and after inflation value of currency will decrease . So, deficit financing is very serious issue in the front of govt. Govt. should use it , if there is no other source of govt. earning .

Public Debt Policy

If Govt. thinks that deficit financing is not sufficient for fulfilling the public expenditure or if govt. does not use deficit financing , then govt. can take loan from world bank , or take loan from public by issuing govt. securities and bonds . But it will also increase the cost of debt in the form of interest which govt. has to pay on the amount of loan . So, govt. has to make strong budget for this and after this amount is fixed which is taken as debt. This policy can also use as the technique of fiscal policy for increase the treasure of govt.

The three possible stances of fiscal policy are neutral, expansionary and contractionary. The simplest definitions of these stances are as follows:A neutral stance of fiscal policy implies a balanced economy. This results in a large tax revenue. Government spending is fully funded by tax revenue and overall the budget outcome has a neutral effect on the level of economic activity. An expansionary stance of fiscal policy involves government spending exceeding tax revenue. A contractionary fiscal policy occurs when government spending is lower than tax revenue.

Stances of fiscal policy

After issuing new notes for payment of govt. of expenses , inflation of India is increasing rapidly and in this inflation , prices of necessary goods are increasing at a high rate. Living of poor person has become difficult . So , these sign shows the failure of Indian fiscal policy.

Govt. fiscal policy has failed to reduce the black money . Even large amount of money of past minister is in the form of black money which is deposited in Swiss Bank.

Limitation of Fiscal Policy



Issue of bondsBonds refer to debt instruments bearing interest on maturity. Treasury BillsThey are the instrument of short-term borrowing by theGovernment of India , issued as promissory notes under discount. Gilt-edged securitiesA constituent account maintained by acustodian bankfor maintenance and servicing of dema