If the RBI decides to adopt an expansionist monetary policy, which of the following would it not do?
- Cut and optimise the Statutory Liquidity Ratio
- Increase the Marginal Standing Facility Rate
- Cut the Bank Rate and Repo Rate
Select the correct answer using the code given below:
Correct Answer: (b) 2 only
Expansionary monetary policy is generally adopted when the RBI wants to increase liquidity, encourage lending, reduce borrowing costs and stimulate economic activity.
Statement 1 is consistent with an expansionary monetary policy. A reduction in the Statutory Liquidity Ratio reduces the proportion of deposits that banks are required to maintain in prescribed liquid assets. This can leave banks with more funds available for lending and credit creation.
Statement 2 is not consistent with an expansionary monetary policy. The Marginal Standing Facility Rate is the rate at which eligible banks can obtain overnight funds from the RBI under the MSF mechanism. Increasing this rate makes borrowing from the RBI more expensive and tends to tighten liquidity conditions. Therefore, the RBI would normally not increase the MSF Rate while pursuing an expansionary monetary policy.
Statement 3 is consistent with an expansionary policy. Cutting the Repo Rate and Bank Rate lowers borrowing costs within the financial system and can encourage banks to expand lending.
The Statutory Liquidity Ratio is the minimum proportion of a bank's Net Demand and Time Liabilities that must be maintained in specified liquid assets such as cash, gold and approved securities.
The Marginal Standing Facility allows eligible banks to obtain overnight liquidity from the RBI against eligible securities.
The Bank Rate is an important RBI reference rate associated with its lending and monetary policy framework.
The Repo Rate is the policy rate at which the RBI provides liquidity to banks against eligible collateral through repurchase transactions. Changes in the Repo Rate influence lending rates, borrowing costs, credit conditions and monetary transmission across the economy.