RBI & ITS CONTROL ON COMMERCIAL BANKS

The Reserve Bank of India (RBI)

RBI ACT 1934 – to regulate the issue of bank notes & keeping reserves, to secure monetary stability in India & to operate currency credit system to its advantage.

v RBI & COMMERCIAL BANKS – RELATIONSHIP:

1) Supervisory & controlling authority over banks: S-22 to issue licenses; S-23 previous approval of RBI for new branches.

2) Inspection: Suo motto or as per CG. The Central Government (CG) may order prohibiting fresh deposit or direct RBI to wind up.

3) Power to issue directions: S-21 to regulate advances, rates, etc…

4) Control over Top Management: S-36:- Remove/terminate/appoint with RBI approval, the manager, CEO, chairman, etc…

v ORGANISATIONAL STRUCUTRE:

The Central Board of Directors who acts as CEO/Governor & <= 4 Deputy Governor; 4directors nominated by Central Government (CG) with 10other directors & 1 Government of India (GOI) official.

v RBI – LIQUID ADJUSTMENT FACILITY (LAF):

LAF allows RBI to adjust in system depending on its monetary policy stance & its reading of country's macro economic fundamentals. LAF operated through Repos & Reverse Repos in order to set a corridor for money market interest rates.

The rates that influence the conditions in money market are,

REPO or floor rate: @ which RBI is willing to borrow money against security; it is flexible & reflect market conditions; it SQUEEZES the liquidity.

REVERSE REPO or cap rate or Bank's re-finance: lending against security held by banks; it INJECTS liquidity.

Thus, LAF is the same day auction & settlement system.

v INTERVENTION IN FOREIGN EXCHANGE BY RBI –

It is to stabilise rupee by buying & selling in foreign exchange market. The choices include, Foreign exchange intervention, International Policy Co-ordination & Capital controls.

The currency intervention (sterilised/un-sterilised) is to dampen the volatility & to prevent misalignment. The un-sterilised intervention is to affect the size of money supply. The sterilised intervention is the effect of changes in money supply offset through Open Market Operation (Sell forex & Buy G-sec).

The objective includes,

Ø Reflection of economic fundamentals in external value of rupee;

Ø Reduce excess volatility in exchange rates;

Ø Help maintaining an adequate level of forex reserves;

Ø Help eliminating market constraints.

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