Qualitative Credit Control Measures – 01

CREDIT RATIONING

It is a method by which the Reserve bank seeks to limit the maximum amount of loan and advances and also fix the ceiling for some specific categories of loans and Advances. For Eg : Banks must lend 40% to the priority sector lending.

MORAL SUASION

Moral suasion means persuasion and request. Under this Central bank persuades and request the commercial bank to refrain from giving loans for speculative and non-essential purpose to arrest the inflation. And also at the same time, to counter deflation, Central bank persuades and request the commercial bank to extend credit for different purposes.

REGULATION OF CONSUMER CREDIT

Credit made available by Commercial Banks for the purchase of Consumer Durables need to be regulated in order to Stabilize The Inflation (i.e) Demand And Supply Of Consumer Durables.

The consumer credit can be regulated to arrest the inflation at time of excess demand and counter deflation at deficient demand of specific goods.

VARIATION OF MARGIN REQUIREMENT

Margin is the difference between the market value of a security and its maximum loan value.

For Eg : A commercial bank grants a loan of Rs.8000 against a security worth Rs.10,000/- here margin is Rs.2,000.

Commercial Banks giving Loan Against Stocks Or Securities. While giving loans against stock or securities they keep margin. If central bank feels that some goods prices are raising due to speculative activities to discourage the flow of credit, it increase the margin.

DIRECT ACTION

When a commercial bank does not co-operate with the central bank in achieving its desirable objectives, direct action is adopted.

For e.g: Central bank may refuse to rediscount the bill of those banks for extreme situation, Central Bank Can Also Cancel The License Of The Bank.

OTHER RELATED CONCEPTS

LIQUIDITY TRAP

A liquidity trap is a situation in which Interest Rates Are Low and Savings Rates Are High, rendering monetary policy ineffective. In this situation, consumers choose to avoid bonds and keep their funds in savings because of the prevailing belief that interest rates will soon rise (This would push bond prices down). The remedy to economic decline is to increase the circulation of money by cutting interest rates. But once the interest rate reaches zero there’s no further action taken by central bank. Such a situation referred by economists as liquidity trap.

QUANTITATIVE EASING

It is Form Of Monetary Policy used to stimulate an economy. To increase money supply in the  economy in order to further increase lending by commercial banks and spending by consumers.

The central bank infuses a pre-determined quantity of money into the economy by Buying Financial Assets from commercial banks and private entities. When Interest Rates Can Go No Lower, the only option for central bank is to pump the money into the economy directly. This is called quantitative easing.

Note: Here No Printing Of New Notes to infuse money and quantitative easing comes with its own risks namely inflation and Depreciation of currency.

Here, Inflation by more money in economy tend to Rise the cost of goods depreciation by more currency in supply, one can buy less foreign bonds, thus reducing the value of domestic currency.

BASE RATE

Base Rate is the interest rate below which scheduled commercial bank cannot lend to their customers. It was recommended by Deepak Mohanty Committee.

Its main Aim is to ensure transparency in lending rates and enabling better assessment of transmission of monetary policy. To ensure that both Corporate And Small And Medium Business Get Money At Low Rates. So that it helps in monetary transmission (i.e.) Rate reduction by RBI directly passes through all section of the society.

Base rate is determined on the basis of a bank’s cost of funds which include Cost Of Deposits, Profit Margins, Operating Expenses, Administrative And Statutory Expenses. Since the base rate will be the minimum rate for all loans, banks are not permitted to resort to any lending below this rate.

The Base Rate as on March 2020 is in the range of 8.15 to 9.40%.

MARGINAL COST OF FUNDS BASED LENDING RATE: (MCLR)

It refers to the Minimum Interest Rate of a bank below which it cannot tend except in some cases allowed by the RBI. It is an internal bench mark or reference rate for the bank.  Minimum Interest Rate for loan is determined by bank and it is decided on the basis of marginal cost or additional cost or incremental cost of arranging one more rupee to the prospective borrower.

It was introduced in 2016 as a new method to compute the bank’s lending rate.

REASON FOR INTRODUCING MCLR:

Rates based on marginal cost of funds are more sensitive to changes in the Policy Rates.Improve the transmission of policy rates into the lending rates of banks.The computation of interest rates will be more transparent.Cost of loans will be fair. The banks can become more competitive and enhance their long run value.

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