Money and monetary policy:
Money - accepted as a means of exchange and at the same time acts as a measure and store of value.
Evolution:
Barter system:
- Exchange of goods for other goods without any medium of exchange. E.g., If A has shoes (who needs rice) and B has rice (who needs shoes), both can exchange required goods.
- Disadvantage: "Double coincidence of wants" - in the above scenario, if A needs rice but doesn't have shoes, the transaction cannot happen.
Metallic standard:
- Face value equals intrinsic value (while currency notes have no intrinsic value).
- The gold standard and Silver standard:
- Value of money = value of the fixed weight of gold. During world war-2, the U.S. issued loans (dollars) with a backup of gold.
- Then the U.S. Dollar is accepted as an international currency.
Paper currency:
- Paper currency is printed based on goods and services in a country. Here goods and services are the back-ups.
- It is a legal tender whose value is given by the Government of the country.
Plastic money:
It includes all debit cards and credit cards.
Cryptocurrency:
It includes the virtual money obtained from data mining. (Note that E-money is different from virtual money)
Functions of money:
Primary function:
- Acts as a medium of exchange
- Acts as a measure of value
Secondary function:
- Acts as a store of value or wealth
- Acts as a Standard of deferred payment
- Acts as a means of transferring purchasing power.
Reserve systems:
Proportionate reserve system:
- Money produced = quantity of gold kept in reserve
- India moved away from this system to the minimum reserve system in 1956.
Minimum Reserve system:
- India maintains 200 crores (115 crores as gold and 85 crores as forex reserve) as a minimum reserve.
- Money produced in a country is based on economic growth and inflation.
Before RBI, currencies were printed by the Presidency bank of Bengal, the Presidency bank of Bombay, and the Presidency bank of Madras. These banks didn't work like banks, instead involved in political activities by the British.
Paper currency was introduced in the Indian economy in 1862.
Reserve Bank of India (RBI):
- The bank was set up based on the recommendations of the 1926 Royal Commission on Indian Currency and Finance, also known as the Hilton Young Commission.
- On 1st April 1935, RBI was formed under the RBI act of 1934 as a private bank in Calcutta.
- In 1937, RBI was moved from Calcutta to Mumbai.
- On 1st January 1949, RBI was nationalised.
Functions of RBI:
Controls the monetary authority - all money related matters
Issues currency: One Rupee notes, coins are issued by the Finance Ministry (with the signature of the Finance minister). Other denominations are issued by the RBI (with the signature of the Governor of RBI). But all currencies are circulated by the RBI.Issues banking license under section 22 of Banking Regulation Act (BRA) 1949.
Banker to the Government: Banker's bank - provides loans and accepts deposits to banks, etc.
Lender of the lost resort: RBI helps to revive debt-ridden private banks. E.g., PMC bank, Yes bank, etc.
Custodian of forex reserves: Foreign Exchange Management Act, (FEMA) 1999. (We get Foreign currency by exports)
Controller of credit.
Banking Ombudsman scheme - section 35 of Banking Regulation Act (BRA), 1949 - came into effect in 1995. This scheme allows us to file complaints against banks (if banks do not function properly).
Monetary policy:
The policy by which the monetary authority of a country controls the supply of money in the economy.
Objectives:
- Control inflation or price rise.
- Focus on economic growth.
Types:
- Expansionary - cheap money policy or 'Dovish policy' - to revive the economic growth or to increase the money supply (by reducing the interest rate for loans).
- Contradictory - dear money policy or 'Hawkish policy' - to reduce prices that have gone up to excess money supply or to decrease the money supply (by increasing the interest rate).
If demand decreases, the price of the product decreases.
Credit control measures:
Statutory basis under RBI act 1934 and Banking Regulation Act (BRA), 1949.
Measures:
- Quantitative or General methods
- Qualitative or Selective methods
NDTL - Net Demand and Time Liability:
- Net Demand and Time Liabilities consist of deposits in current accounts, savings accounts and term deposits.
- Demand Liability (DL) includes savings and current accounts (Business transactions).
- Time Liability (TL) includes fixed deposits (Bulk deposits) that can be withdrawn with interest after a certain period.
- Recurring deposit (RD) includes deposits as bits that can be withdrawn after a certain period.
