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Indian Financial System

Notes in tune with the bank rate. But in India these changes are not autonomous as the RBI fixes
all rates and the government and simultaneous changes take place in the whole spectrum
of interest rates. But the effect of these changes on the economy is limited to their impact
on the organized financial system.

3. Bank rate influences the willingness and ability of banks to lend due to change in policy and
consequently, the level of inventory holdings and investments in the economy are affected.

Open Market Operations (OMO)

OMO are an important instrument of monetary policy and refer to the purchases and sales by the
Central Bank of government securities, treasury bills, gold, foreign exchange etc. in India, section
17 of the RBI Act authorizes the reserve bank to purchase and sell government securities- Central
and State - and those fully guaranteed by the Central Government. At present, the RBI puts
through the transactions only in Central Government securities. The reasons for this are as follows;
1. The securities have the highest degree of liquidity and easily marketable.
2. These are held by the reserve bank in its own investment account and also by the banks
and financial institutions which facilitates the reserve banks operations in these securities
on a daily bases.

3. There is a ready market for them in major cities in terms of quotations of prices, yields etc.

Control of Credit by the Reserve Bank of India

The Reserve Bank of India is the controller of credit i.e. it has the power to influence the volume
of credit created by banks in India. It can do so through changing the Bank rate or through open
market operations. According to the Banking Regulation Act of 1949, the Reserve Bank of India
can ask any particular bank or the whole banking system not to lend to particular groups or
persons on the basis of certain types of securities. Since 1956, selective controls of credit are
increasingly being used by the Reserve Bank.
The Reserve Bank of India is armed with many more powers to control the Indian money
market. Every bank has to get a license from the Reserve Bank of India to do banking business
within India, the license can be cancelled by the Reserve Bank of certain stipulated conditions
are not fulfilled. Every bank will have to get the permission of the Reserve Bank before it can
open a new branch. Each scheduled bank must send a weekly return to the Reserve Bank showing,
in detail, its assets and liabilities. This power of the Bank to call for information is also intended
to give it effective control of the credit system. The Reserve Bank has also the power to inspect
the accounts of any commercial bank.

As supreme banking authority in the country, the Reserve Bank of India, therefore, has the
following powers:
1. It holds the cash reserves of all the scheduled banks.

2. It controls the credit operations of banks through quantitative and qualitative controls.
3. It controls the banking system through the system of licensing, inspection and calling for
information.
4. It acts as the lender of the last resort by providing rediscount facilities to scheduled banks.

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