In India, inflation has been a source of concern over the past few years due to the increase in the prices of essential commodities affecting the lives of common man. While it has been a matter of concern, the government from time to time has handled it effectively – through effective monetary policy monitored by Reserve Bank of India and fiscal policy regulated by Union Finance Ministry. The monetary policy formulated by Reserve Bank encompasses studies of the causes of inflation and other economic and financial indicators that help it identify the underlying inflationary pressures and formulate an effective policy.
Inflation is caused by an increase in the money supply in the economy and can be controlled by lowering the money supply in the economy as people would have lesser money to spend, leading to reduced demand. Reserve Bank of India manages the monetary measures through reserve requirements and lending rates comprising of Bank rate, Repo rate, Reverse repo rate, Cash reserve rate – by imposing restrictions and requirements on lending institutions to reduce the amount of credit available in the market, thereby reducing the amount of free flowing capital in the economy, i.e., the amount of excess liquidity in the financial market. This action increases the cost associated with borrowing currency, thereby reducing the demand of goods and services, which in turn reduces or stabilizes the prices of these goods and services.
For example, to curb the rising inflation at the end of 2009, in January 2010, Reserve Bank of India has decided to increase the cash reserve ratio of scheduled banks by 75 basis points from 5.0 per cent to 5.75 per cent of their net demand and time liabilities.
Apart from the monetary measures, fiscal measures, regulated by the Union Finance Ministry are also used to curb inflation, as explained in the following PPT on inflation.
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