Banking System & Monetary Policy — RBI, Rates & Financial Regulation

Reserve Bank of India (RBI)

Functions of RBI

Monetary Policy

Objective

Primary objective: Maintaining price stability while keeping in mind the objective of growth (Preamble, RBI Act as amended in 2016).

Inflation Targeting Framework (since 2016)

• Inflation target: 4% CPI (Consumer Price Index) with a tolerance band of +/- 2% (i.e., 2%–6%)
• Set by the Central Government in consultation with RBI — reviewed every 5 years
• If inflation exceeds 6% or falls below 2% for 3 consecutive quarters, RBI must explain to government

Monetary Policy Committee (MPC)

Constituted under Section 45ZB of the amended RBI Act:

• Total: 6 members
• Decisions by majority vote; Governor has casting vote in case of tie
• Meets at least 4 times a year (in practice, 6 bi-monthly meetings)

Monetary Policy Tools

Quantitative (Direct) Tools

Qualitative (Selective) Tools

Open Market Operations (OMO)

• RBI buys/sells government securities in the open market
• Buy → injects liquidity → expansionary
• Sell → absorbs liquidity → contractionary

LAF (Liquidity Adjustment Facility)

• Daily window for banks to borrow (repo) or deposit (reverse repo) with RBI
• Primary tool for day-to-day liquidity management

Banking Structure in India

Scheduled Banks

RBI
├── Scheduled Commercial Banks
│   ├── Public Sector Banks (12) — SBI + 11 nationalised banks
│   ├── Private Sector Banks — HDFC Bank, ICICI, Axis, Kotak, etc.
│   ├── Foreign Banks — Citibank, HSBC, Standard Chartered, etc.
│   ├── Small Finance Banks (12) — AU, Equitas, Ujjivan, etc.
│   ├── Payments Banks (6) — Paytm, Airtel, India Post, Fino, Jio, NSDL
│   └── Regional Rural Banks (43)
├── Scheduled Cooperative Banks
│   ├── State Cooperative Banks
│   └── Urban Cooperative Banks
└── Non-Banking Financial Companies (NBFCs)

Bank Nationalisation

Key Banking Reforms

NPA (Non-Performing Assets) Crisis and Resolution

Resolution Mechanisms:

• IBC (Insolvency and Bankruptcy Code), 2016 — time-bound resolution (330 days); NCLT adjudicates
• SARFAESI Act, 2002 — banks can seize and sell assets of defaulters without court intervention
• Asset Reconstruction Companies (ARCs) — buy bad loans at a discount
• Bad Bank (NARCL) — National Asset Reconstruction Company Ltd., set up in 2021 to buy stressed assets from banks

Basel Norms (Capital Adequacy)

Financial Inclusion

Key Initiatives

Digital Payments

Important for UPSC

Prelims Focus

• RBI established 1935; nationalised 1949; HQ Mumbai
• MPC: 6 members; Governor has casting vote; inflation target 4% (+/- 2%)
• Current rates: Repo 5.25%, CRR 3%, SLR 18% (verify latest before exam)
• Bank nationalisation: 1969 (14 banks) and 1980 (6 banks); now 12 PSBs
• NPA = overdue > 90 days; IBC 2016 — NCLT; 330 days
• PMJDY: 52+ crore accounts; zero balance; RuPay card
• Basel III: 11.5% CAR for Indian banks

Mains GS-3 Dimensions

• Is inflation targeting too narrow an objective for RBI in a developing economy?
• NPA crisis: causes, RBI's role, and effectiveness of IBC
• Digital payments revolution: opportunities and cybersecurity risks
• Should RBI's autonomy be strengthened? (Tensions with government)
• Financial inclusion vs. financial viability of banks

Interview Angles

• "How does RBI balance growth and inflation?"
• "Is UPI India's greatest financial innovation?"
• "Should cryptocurrency be regulated or banned in India?"

Previous Year Questions (PYQs)

Prelims

Q. If the RBI decides to adopt an expansionist monetary policy, which of the following would it not do? (CSE Prelims 2020)

1. Cut and optimise the Statutory Liquidity Ratio
2. Increase the Marginal Standing Facility Rate
3. Cut the Bank Rate and Repo Rate (a) 1 and 2 only (b) 2 only (c) 1 and 3 only (d) 1, 2 and 3 Answer: (b)

Q. Which of the following statements is/are correct regarding the Monetary Policy Committee (MPC)? (CSE Prelims 2017)

1. It decides the RBI's benchmark interest rate.
2. It is a 12-member body including the Governor of RBI and is reconstituted every year.
3. It functions under the Chairmanship of the Union Finance Minister. (a) 1 only (b) 1 and 2 only (c) 3 only (d) 2 and 3 only Answer: (a)

Q. When the Reserve Bank of India reduced the Statutory Liquidity Ratio by 50 basis points, which of the following is likely to happen? (CSE Prelims 2015) (a) India's GDP growth rate increases drastically (b) Foreign Institutional Investors may bring more capital into our country (c) Scheduled Commercial Banks may cut their lending rates (d) It may drastically reduce the liquidity to the banking system Answer: (c)

Q. Consider the following statements: (CSE Prelims 2018)

1. Capital Adequacy Ratio (CAR) is the amount that banks have to maintain in the form of their own funds to offset any loss that banks incur if the account holders fail to repay dues.
2. CAR is decided by each individual bank. Which of the statements given above is/are correct? (a) 1 only (b) 2 only (c) Both 1 and 2 (d) Neither 1 nor 2 Answer: (a)

Q. 'Basel III Accord' or simply 'Basel III', often seen in the news, seeks to (CSE Prelims 2015) (a) Develop national strategies for the conservation and sustainable use of biological diversity (b) Improve the banking sector's ability to deal with financial and economic stress and improve risk management (c) Reduce the greenhouse gas emissions but place a heavier burden on developed countries (d) Transfer technology from developed countries to poor countries to enable them to replace the use of chlorofluorocarbons in refrigeration with harmless chemicals Answer: (b)

Mains

Q. What are the causes of persistent high food inflation in India? Comment on the effectiveness of the monetary policy of the RBI to control this type of inflation. (CSE Mains 2024, GS Paper 3, 10 marks)

Q. Is inclusive growth possible under market economy? State the significance of financial inclusion in achieving economic growth in India. (CSE Mains 2022, GS Paper 3, 10 marks)

Q. Pradhan Mantri Jan Dhan Yojana (PMJDY) is necessary for bringing the unbanked to the institutional finance fold. Do you agree with this for the financial inclusion of the poor section of the Indian society? (CSE Mains 2016, GS Paper 3, 15 marks)

Current Affairs Connect

Link these static concepts with live developments:

Exam tip: After every MPC meeting, update your repo rate, CRR, and SLR figures. Read Ujiyari's economy coverage — RBI monetary policy decisions appear in Prelims every single year.

Sources: RBI, RBI Monetary Policy, PIB, Economic Survey 2025-26