Question

How is monetary policy used to correct deficient demand? Explain.

Answer 1

1. Lowering the Bank Rate:

• Bank rate is the rate at which the central bank lends to commercial banks.
• When it is reduced, loans become cheaper.
• This encourages more borrowing and investment.

2. Buying Securities (Open Market Operations):

• The central bank buys government securities from the public or banks.
• This adds money into the economy.
• People have more cash to spend, which increases demand.

3. Reducing CRR (Cash Reserve Ratio):

• Banks are required to keep a certain % of their deposits with the RBI.
• Lowering CRR means banks can lend more money to the public.

4. Reducing SLR (Statutory Liquidity Ratio):

• Banks can now keep fewer assets in the form of gold or securities.
• This frees up more funds for giving loans.

5. Lowering Margin Requirements:

• People can now borrow more easily, even with smaller security.
• This boosts credit and demand.

6. Stopping Credit Rationing: Any limits on loans are removed, so credit flows freely to businesses and consumers.

7. Moral Suasion: The central bank advises banks to be more liberal in lending, so that money moves more freely in the economy.