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Unit 9: Indian Currency System

Reserve Money is sum of a country’s currency in motion and banks deposits with the RBI. Notes
When Reserve Bank of India produces reserve money either by means of currency or bank
reserves, it offers liquidity into the banking system which so supplies money to the
economy.

9.4.1 RBI Creates Reserve Money

Let us now discuss the role of RBI in creating reserve money:

Currency in circulation involves creating reserve money by printing currency and bank
deposits makes reserve money by accepting bank reserves which are preserved as part of
cash reserve ratio.

Reserve Bank of India makes reserve money by purchasing domestic assets via OMOs,
Liquidity Adjustment Facility operations.
Reserve Bank of India makes reserve money via bank assets by increasing Cash Reserve
Ratios.
Reserve Bank of India patterns currency by buying foreign currency assets, gold or domestic
assets.
Reserve Money is the obligation of the Reserve Bank of India. Two liability constituents
are currency in circulation and bank deposits.

To increase its liability, Reserve Bank of India requests to consistently increase its assets as
well. RBI assets are forex assets (foreign currency asset), gold, rupee securities (domestic
assets).

When there is dollar inflows from foreign investors, Reserve Bank of India buys dollars
and sells rupee to the market, thus making reserve money by increasing its foreign currency
assets (forex intervention).
With rise in holding period, risk associated reduces.

9.4.2 Impact of Reserve Money

You must also be aware of the impact of reserve money:

Reserve money replicates the liquidity operations of the RBI.
Broad money (M3) which is currency in movement Demand and Time deposits with the
banks is a manifold of reserve money.

Rise in reserve money, upturns broad money (money supply) in that way creating liquidity
in the economy.

9.5 Money Multiplier

In this section, you will be aware of the highlighting features of money multiplier:

Chart underneath displays how banks generate more money through additional reserves.
In other words, its procedure of generating more money by banks from reserve money.
Money multiplier is the method through which banks make more money through its
additional reserves, thus intensifying money supply.

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