Money, Banking and the RBI

Flagship anchor

The Reserve Bank of India (RBI) is the country's central bank, established on 1 April 1935 under the RBI Act 1934 and nationalised in 1949. It issues currency, conducts monetary policy, manages the foreign-exchange reserves, and regulates the banking system. CAPF tests the RBI's establishment facts and functions, the policy rates (repo, reverse repo, MSF, bank rate, CRR, SLR), the money-supply measures (M0 to M4), the Monetary Policy Committee, the inflation target, and the categories of banks. These are clean recall facts and a perennial source of objective questions. The standard references are the RBI's own publications (the Monetary Policy Report and the website), NCERT Class XII "Introductory Macroeconomics" (the money and banking chapter), and Ramesh Singh's "Indian Economy".

The RBI and monetary policy

Monetary policy is the RBI's management of money supply and interest rates to achieve price stability while keeping the objective of growth in mind. Since 2016, after the amended RBI Act, policy is set by the Monetary Policy Committee (MPC), a six-member body: three members from the RBI (including the Governor as chairperson and a Deputy Governor) and three external members nominated by the Central Government. The Governor has a casting vote in the event of a tie. The MPC meets at least four times a year.

The flexible inflation-targeting framework gives the MPC a statutory mandate: keep CPI inflation at 4 percent, within a band of plus or minus 2 percent (that is, 2 to 6 percent). The target is fixed by the Central Government in consultation with the RBI, currently for a five-year cycle. If inflation stays outside the band for three consecutive quarters, the RBI must report to the Government explaining the failure and the remedial action.

The instruments

• Repo rate: the rate at which the RBI lends short-term funds to commercial banks against government securities (a repurchase agreement). The principal policy rate.
• Reverse repo rate: the rate at which the RBI borrows from banks (absorbs liquidity). Now largely operated through the Standing Deposit Facility (SDF) in the revised corridor.
• Marginal Standing Facility (MSF): lets banks borrow overnight from the RBI against securities (including against the SLR portfolio), usually slightly above the repo rate; the upper bound of the corridor.
• Bank rate: the long-term rate at which the RBI lends to banks; now aligned with the MSF rate.
• Cash Reserve Ratio (CRR): the share of a bank's net demand and time liabilities (NDTL) it must keep as cash reserves with the RBI. No interest is paid on it.
• Statutory Liquidity Ratio (SLR): the share of NDTL a bank must keep in safe liquid assets (cash, gold, approved government securities) with itself.
• Open Market Operations (OMO): the RBI buying or selling government securities in the market to inject or absorb durable liquidity.

The liquidity adjustment facility (LAF) corridor: the repo rate sits at the centre, the MSF at the top, and the SDF/reverse repo at the bottom. Banks borrow at the MSF and park surplus at the SDF.

Direction of effect: raising repo, CRR, or SLR tightens money (contractionary, used to fight inflation); lowering them eases money (expansionary, used to support growth).

Static facts to memorise

Policy rates compared (CRR versus SLR)

The RBI's functions

• Issuer of currency (notes above one rupee), under the Minimum Reserve System.
• Banker to the Government (Centre and States), and its debt manager.
• Banker's bank and lender of last resort.
• Custodian of the foreign-exchange reserves (see external sector trade and bop).
• Controller of credit and conductor of monetary policy.
• Regulator and supervisor of banks and many non-banking financial companies.

Types of banks

Bank nationalisation: 14 major banks were nationalised in 1969 and 6 more in 1980. NABARD (National Bank for Agriculture and Rural Development) was set up in 1982 as the apex rural-credit institution, on the recommendation of the Sivaraman Committee. The lead bank scheme assigns a "lead bank" to each district for credit planning.

Non-banking financial institutions and other regulators

The financial system is wider than banks. CAPF occasionally tests the regulator-to-domain mapping:

• NBFCs (Non-Banking Financial Companies): lend and invest but cannot accept demand deposits or issue cheques; regulated by the RBI.
• NPAs (Non-Performing Assets): loans on which interest or principal is overdue beyond 90 days; high NPAs (the "twin balance sheet" problem) weaken bank lending. The Insolvency and Bankruptcy Code, 2016 is the main resolution route.
• Basel norms: international capital-adequacy standards (the Capital to Risk-weighted Assets Ratio, CRAR) that banks must meet.

A short history of Indian banking

Governance and security angle

A well-regulated banking system and broad financial inclusion are dimensions of state capacity. Bringing households into the formal banking net (through Jan Dhan accounts, payments banks, and India Post Payments Bank, see major economic schemes) reduces the cash economy, improves the traceability of funds, and supports anti-money-laundering and counter-terror-financing efforts. The RBI and the Financial Intelligence Unit (FIU-IND) work alongside enforcement agencies on suspicious-transaction reporting, which links monetary plumbing to internal security. Currency security itself (anti-counterfeiting features, the withdrawal and reissue of notes) and the integrity of payment systems such as UPI are recognised national-security concerns, since fake currency and money laundering have been used to finance terrorism and cross-border crime.

How CAPF asks it (authored practice)

1. The Reserve Bank of India was established under the: a) RBI Act 1934, in 1935 b) Banking Regulation Act 1949 c) RBI Act 1935, in 1934 d) Companies Act 1956 Answer: a. Established 1 April 1935 under the RBI Act 1934; nationalised in 1949.

2. Which of the following is kept by a bank with itself, not with the RBI, and earns a return? a) CRR b) SLR c) Repo d) MSF Answer: b. SLR is held by the bank in liquid assets (including interest-bearing government securities); CRR is cash kept with the RBI and earns nothing.

3. The flexible inflation-targeting mandate of the MPC is to keep CPI inflation at: a) 2 percent within plus or minus 2 b) 4 percent within plus or minus 2 c) 5 percent within plus or minus 1 d) 6 percent within plus or minus 2 Answer: b. The target is 4 percent CPI with a band of 2 to 6 percent.

4. Broad money (M3) is best described as: a) currency with the public only b) M1 plus post office savings deposits c) M1 plus time deposits with banks d) reserve money Answer: c. M3 = M1 + time (term) deposits with banks.

5. Bank deposits are insured by the DICGC up to: a) 1 lakh rupees b) 2 lakh rupees c) 5 lakh rupees d) the full deposit Answer: c. Up to 5 lakh rupees per depositor per bank, raised in 2020 from 1 lakh.

6. The stock market and mutual funds in India are regulated by: a) the RBI b) SEBI c) IRDAI d) PFRDA Answer: b. SEBI (1992) regulates securities markets; IRDAI does insurance, PFRDA pensions.

7. A loan is classified as a Non-Performing Asset when interest or principal is overdue beyond: a) 30 days b) 60 days c) 90 days d) 180 days Answer: c. The standard NPA threshold is 90 days of overdue.

Common confusion

• CRR versus SLR: CRR is cash with the RBI earning nothing; SLR is liquid assets held by the bank itself, including interest-earning securities.
• Repo versus reverse repo: repo is the RBI lending to banks (the principal rate); reverse repo is the RBI borrowing from banks (absorbing liquidity).
• M0 versus M3: M0 is reserve money (the base the RBI controls directly); M3 is broad money (the wide aggregate watched for policy).
• Bank rate versus repo rate: both are RBI lending rates; the repo is the short-term operative policy rate, while the bank rate is now aligned with the MSF.
• Payments bank versus small finance bank: a payments bank cannot lend (only deposits and payments); a small finance bank lends to small borrowers and meets priority-sector norms.

Memory hook

"Repo Raises, money Restricts; CRR is Cash with the central bank; SLR Stays at the bank in Securities." For the money ladder: "M-rising, Liquidity-falling" (M1 most liquid, M4 least). For the corridor: MSF on top, repo in the middle, SDF at the bottom.

Night before

• RBI: 1 April 1935, RBI Act 1934, nationalised 1949, HQ Mumbai.
• MPC: 6 members, target CPI 4 percent (band 2 to 6), Governor has the casting vote.
• Repo is the principal rate; raising repo, CRR, or SLR tightens money.
• CRR is cash with the RBI (no interest); SLR is liquid assets with the bank.
• 14 banks nationalised in 1969, 6 in 1980; NABARD set up 1982; DICGC insures up to 5 lakh rupees.

Glossary

• Central bank: the apex monetary authority, the RBI in India.
• Monetary policy: managing money supply and interest rates for price stability and growth.
• Repo rate: RBI's short-term lending rate to banks against securities.
• Reverse repo / SDF: rate at which the RBI absorbs surplus liquidity from banks.
• MSF: marginal standing facility, overnight borrowing above the repo rate.
• CRR: cash reserve ratio, cash kept with the RBI as a share of NDTL.
• SLR: statutory liquidity ratio, liquid assets kept by the bank as a share of NDTL.
• NDTL: net demand and time liabilities, the base for CRR and SLR.
• OMO: open market operations, RBI buying or selling government securities.
• M0: reserve money, the monetary base the RBI controls directly.
• M3: broad money, the widely watched aggregate.
• MPC: Monetary Policy Committee, the six-member rate-setting body.
• Inflation targeting: keeping CPI inflation within a statutory band.
• DICGC: Deposit Insurance and Credit Guarantee Corporation, the deposit insurer.
• NABARD: National Bank for Agriculture and Rural Development, apex rural-credit body.
• NPCI: National Payments Corporation of India, which operates UPI and other rails.
• Lender of last resort: the central bank's role of lending to banks in a crisis.
• NBFC: a non-banking financial company that lends but cannot take demand deposits.
• NPA: a non-performing asset, a loan overdue beyond 90 days.
• SEBI: Securities and Exchange Board of India, the markets regulator (1992).
• Basel norms: international bank capital-adequacy standards.
• Money multiplier: the multiple by which broad money expands on a given reserve base.

Related notes

• inflation and prices (the CPI target the MPC pursues).
• basics national income and growth (monetary policy and growth).
• budget and fiscal policy (RBI as banker to the Government, deficit financing).
• external sector trade and bop (RBI as custodian of forex reserves and the rupee).
• agriculture and rural economy (NABARD, RRBs, priority-sector lending).
• major economic schemes (Jan Dhan, Mudra, and financial inclusion).
• syllabus index

Current affairs hook

The repo rate and the policy stance are revised through the year, so always carry the latest MPC decision into the exam. The RBI has been moving the repo rate in response to CPI inflation; treat the exact current repo rate as currency-sensitive and verify against the latest RBI monetary policy statement. The Unified Payments Interface (UPI), built by the National Payments Corporation of India (NPCI), now handles a very large share of retail digital transactions and is a frequent current-affairs hook, as are central bank digital currency (the e-rupee pilot) and the cross-border linking of UPI.