What does neutral stance of RBI mean?

Kanupriya Awasthi

Kanupriya Awasthi, studied at Miranda House, University of Delhi

Répondu il y a 61w

There are three types of Monetary policy followed by RBI-

  1. Accommodative Monetary Policy- It is followed by RBI to increase the money supply in the economy. This is done by lowering of the repo rate by the RBI (though there are other tools as well)so that borrowing money gets easier. And people consume more. It is done to boost the economy when it is slowing. This type of policy is also called as Easy or Expansionary Monetary Policy of the RBI
  2. Contractionary Monetary Policy- It is followed by RBI to decrease the overall supply of money in the economy. This is done by RBI with the help of increasing the repo rate. This is makes consumption difficult in the economy. This is done in order to control inflation
  3. A neutral stance of RBI provides it the flexibility to move in either of the directions. But, prevailing risk of inflation may mean that the RBI won't cut down the interest rates.

Vidyasagar Patnaik

Vidyasagar Patnaik, Director (Grade D) - DEPR at Reserve Bank of India (2016-present)

Répondu il y a 17w · L'auteur dispose de réponses 126 et de vues de réponses 303.2k

Central Banks frame the monetary policy of the economy in their jurisdiction. Now, RBI is the central bank of the Indian Republic.

To understand what is meant by the ‘stance’ of a central bank, we need to know what exactly is the monetary policy, and how it operates. Now, the objective of any policy (fiscal, or, monetary) is to promote economic growth, increase employment, ensure price stability, etc. Fiscal policy means government budgetary policy. Now, if government wants to promote some industry, under fiscal policy, it can give the industry tax breaks, or make direct investments in that industry, etc. Such policies have direct and immediate impact on the Secor which they affect.

On the other hand, monetary policy does not have such direct policy instruments. How monetary policy tries to achieve these objectives is by channelling the money in the economy to productive sectors. Say, for instance, economic growth can be promoted by increasing investment in economy. Now, investment can increase if the rates of interest on loans (for productive purposes) are reduced. But when the rates of interest are reduced, consumption can also increase, because the cost of money (interest paid on loan) becomes cheaper. Now, if consumption in the economy (demand) increases, without a concomitant increase in production of goods (supply), the prices of goods will increase. That is, there will be inflation in the economy. Now, inflation, beyond a certain level, is very damaging to the economic growth, and can actually pull down economic growth very drastically. This has happened in several countries, and currently Venezuela is experiencing such a crisis.

So, reducing interest rates is not as easy or simple as it sounds. You can not have unbridled rate cuts. This is further complicated by the fact that it is the commercial banks (like SBI, ICICI, etc) which gives loans to businesses and NOT the central bank (in our case, RBI). Then how can RBI influence the commercial banks to lend at a lower rate? This can be achieved by lowering the rates at which the RBI lends to commercial banks. This rate is called the ‘policy rate’. In India, Repo Rate is the effective policy rate. Now, when banks can borrow at a cheaper rate from RBI, in theory, they should be willing to lend at a lower rate to commercial borrower. But a policy rate cut does not always translate to a interest rate reduction by the commercial banks. Because, the rates at which commercial banks lend to borrowers are dependent on several factors, including the interest they pay on deposits (it is a cost to banks), the rates at which they can raise money from the market, the rate at which they can borrow from the RBI, AND, their assessment of the riskiness of the business to which they are about to lend. The higher the risk, the higher is the lending rate. Therefore, even if the central bank lowers the policy rate, banks may not be able to lend to businesses at cheaper rates, their cost of funds is high, or business environment is not as favorable as it should be, etc, etc. Nevertheless, it does finally translate to a reduction in lending rates, but with a lag of time. Also, it is not necessary that if a central bank reduces policy rates by, say, 0.25%, the commercial banks will pass on the entire 0.25% rate cut to the final borrower. They may only reduce their lending rates by say, 0.10%, much lesser than the 0.25% rate cut by the central bank.

Leggi:  How do companies like venmo store funds and transfer them between users?

The lesser the time elapsed between a central bank rate cut, the faster is the monetary policy transmission mechanism. Also, the higher the extent of rate cut passed on to the borrower, the more is the effectiveness of the monetary policy transmission mechanism.

So while the lending rate cuts depend on the efficiency of the monetary policy transmission mechanism, there is another area where monetary policy has very quick impact, that is, the money supply. When the central bank reduces policy rate, money supply in the economy will rise fairly quickly. This is because, when the central bank reduces policy rates, banks will be quick to reduce their interest rates on deposits. (obviously, interest paid on deposits is their cost, and they would be too glad to reduce the cost). Once the interest rates on deposits reduce, people will be less inclined to keep their money in deposits (because rates of return are now lower). So the additional money they keep with themselves can now go towards increased consumption, which raises demand, and hence prices, that is, it causes inflation. Alternatively, they could invest their money in other avenues, like, say stock market. This will cause the stock prices to go up, that is, there will be asset price inflation. Also, if there is a reduced interest on loans as well, peoples outgo on interest payments will reduce, leaving more money with themselves. This also causes inflation. So, it has been observed that central bank policy actions have more immediate impact on inflation, than on production. Given this, most of the major central banks in the world have now become inflation targeters. That is, their primary objective is to manage inflation in the economy. The other objectives such as financial stability, growth, etc, follow inflation objective. They are secondary objectives. Still, central banks try to meet these objectives as well, and depending on circumstances, one objective gets priority over the other. For example, if financial markets are extremely volatile, financial stability becomes more important than the growth objective. On the other hand, if financial markets are already orderly and stable, growth objective gets priority. RBI also now has become an inflation targeting central bank.

Leggi:  Quelle est l'utilisation de la conversion d'un fichier PDF en fichier PSD à l'aide d'Adobe Photoshop?

So the primary objective of RBI now is to control inflation within a target band. The target band is now 4-6%. If CPI inflation goes lower than 4%, RBI will go for accommodative stance. That is, RBI will be increasing money supply in the economy, by reducing its policy rates, injecting liquidity through repo transactions, purchase of securities (primarily government securities) from banks etc. So accommodative stance means the central bank will be injecting liquidity into the economy.

On the other hand, if the CPI inflation is above 6%, RBI will be in tightening stance. That means, it will raise repo rate, withdraw liquidity from the economy through sale of government securities, doing reverse repo operations, etc.

Now, neutral stance means RBI will not be alering the policy rate, etc.

While all this appears simple enough, the actual decision on stance is taken more based on the ‘underlying inflationary pressures’, rather than the CPI numbers alone. That is, even if inflation rate is, say around 4%, RBI may decide not to go for accommodative stance because underlying inflationary pressures are high. For instance, inflation expectations are high, or, international crude oil prices are trending up, so petroleum products are expected to cost more soon (and lead to heavy generalized inflation), or, government is planning a huge expenditure in the near future (say, consumption expenditure like on elections, whatever). Likewise even if inflation rate is above 6%, RBI may decide to maintain a neutral stance as long as the underlying inflationary pressures are weak.

J'espère que ça aide.

Note: Most of my readers seem to be graduate (BA/B.Tech) level students, with little or no prior knowledge of economics, and interested in applying for RBI Grade B. That's why I keep my answers relatively simple and free of jargon, even if they are NOT 100% accurate. The idea is to give an introduction/flavour of the idea to these kids than to make them masters of the subject. For more techinal and in-depth understanding, I request you to read standard text books. If you are an advanced student of economics, it is best you by pass my feed altogether. It is not intended for you.

Thanks a lot for patiently reading through my usually boring and long-winded answers.

Anubhav Sharma

Anubhav Sharma

Répondu il y a 18w

Goverenments desire long term price stability and continous growth in productive capacity in economy and employment.

Monetary policy is a one of tool by which governments influence the output or GDP in order to curtail effects of cyclic stages of economy in order to achieve its objectives. Since 1930s gold standard was abolished by Bank of England and fiat money i.e. legal tender was used. In old days, as you might have heard, promissory notes were issued by goldsmiths against deposit of gold which became modern money. But now as Central banks can mint as much money as they want (They are Mono supplier of money in a country) because now this paper has become money, a medium of exchange, they are in best position to helm the control of monetary policy.

Leggi:  What's the need for cryptocurrency?

Neutral Stance, you are referring is actually due to automatic stabilizers, established in policy which interfere whenever cyclic pressures increase. Neutral may also signify their operation independence i.e. they are given a target of inflation and they are responsible for achieving in by any means in a time horizon. Due to which RBI is not effected by political turmoil/controversy in India it is just focus on achieving its target of achieving price stability.

Extra: Actually there are contracts between central banks and govt. which gives them power and duties. It was started in New Zealand in 1987 and from then it is copied by many countries. Interestingly, US does not rely on such contract but they still have focus on price stability.

Upendra Kumar Giri

Upendra Kumar Giri, M Sc from Indian Institute of Technology, Bhubaneswar (2016)

Répondu il y a 22w

Neutral policy stance (keeping repo rate unchallenged) essentially means that the future call on rate direction would be data-driven and in either direction. If Monetary Policy Committee (MPC) of RBI had, in its last meeting, decreased repo rate ( accomodative la politique monétaire) and now it is turning its stance to neutral policy, there is less scope for cut in interest rate in the following meeting as there is enough liquidity in the market and it has picked up a pace. Similarly, if RBI is moving from contractionary monetary policy (when repo rate is increased to suck up the liquidity of the market) to the neutral policy stance, there is greater scope for cut in interest rates. That is future call on the rate direction would depend on previous policy if situation remains normal.

Vaibhav Mogra

Vaibhav Mogra, studied at St. Xavier's College, Kolkata

Répondu il y a 88w

There are three monetary policy stance.

  1. Accommodative /Easy. It means that inflation is easing and there are prospects of rate cuts.
  2. Neutral. Inflation is fine but there is a need to be cautious since macroeconomic conditions show that inflation may rise. Thus don't expect rate cuts.
  3. Tight. Inflation is rising and needs to be contained. Thus there is a need to raise the interest rates.

Lascia un commento

Il tuo indirizzo email non sarà pubblicato. I campi obbligatori sono contrassegnati *

Questo sito usa Akismet per ridurre lo spam. Scopri come i tuoi dati vengono elaborati.