DMPQ- Explain quantitative tools of monetary policy taken by Central banks.

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Quantitative or General methods are those which are used by the central bank to influence the total volume of credit and money supply in the banking system, without any regard for the use to which is put while qualitative or selective measures are those which are used by the central bank to regulate the flow of credit in specific sectors of the economy.

Quantitative methods of money regulation include:

  • Bank rate Policy – A deliberate manipulation of the bank rate (rate charged by the central bank for lending funds to commercial banks) to influence the flow of credit created by the commercial banks is known as bank rate policy. A decrease in the bank rate results in credit becoming cheaper.
  • Open market operations – Open market operations (OMOs) refer to the sale and purchase of government securities by the central bank to the commercial banks. It includes Repo and Reverse Repo Rates. They enable mobilization of budgetary resources and act as an instrument to siphon off the excess liquidity in the system.
  • Reserve Requirements: A certain amount of bank deposits is kept with the central bank. It regulates money supply by influencing the volume of excess reserves with the commercial banks and also the credit multiplier of the banking system. In India this is the Cash Reserve Ratio (CRR).
  • Statutory Liquidity Ratio (SLR): SLR is the percentage of funds banks need to maintain in the form of liquid assets at any point in time. When the SLR is high, banks have less money for commercial operations and hence less money to lend out.
  • Deficit Financing: The central bank can print more money, but it results in more inflation and isn’t the wisest choice to control money supply.
  • Quantitative Easing: The central bank infuses a pre-determined quantity of money into the economy by buying government bonds or other financial assets from commercial banks and private entities.

 

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