Monetary Policy


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Meaning

 

Monetary policy refers to policy formulated and implemented for achieving the following objectives:

 

  1. Regulating the supply of money including credit money and adjusting it to the needs of the economy
  2. To control the cost of money by regulating the rates of interest.
  3. Directing the supply of money to the required channels in accordance with the plan of priorities prepared by the planning authority.

 

 

Importance of monetary policy

 

A modern economy is a money economy. All transactions are effected with the help of and through the medium of money. The prices of goods, services and factors are fixed in terms of money. People earn their income in the form of money and spend it in the form of money. So the supply of money creates money income in the hands of the community and expenditure of money generates the demand for different goods and services.

 

The monetary authority has to maintain a perfect balance between increase in the production of goods and services and increase in the supply of money. If increase in the supply of money exceeds increase in the production of goods and services the result is inflation. On the other hand, if the production of goods and services increases at a fast rate and the supply of money increases at a slow rate the result is recession and maybe depression. Hence the monetary authority has to monitor the growth in production very closely and adjust the money supply to it.

 

In India the monetary policy is formulated and implemented by the Reserve Bank of India which is an autonomous financial institution. It is expected that the RBI would use professional expertise to control the supply of money to the benefit of the community.

 

Instruments of monetary Policy

 

In a modern economy the supply of money consists of two parts:

  1. The legal tender money
  2. The bank money which is also called the Credit money

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