Quantitative measures of monetary policy

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The quantitative measures regulate the total quantity of credit without taking into account the uses to which such credit is put. Such measures affect the economy as a whole and are non-discriminatory in character.

There are three quantitative measures:

i. Bank rate

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ii. Open market operations

iii. Variable cash reserve ratio.

(i) Bank rate:

Bank rate is the official minimum rate of interest at which central bank lends money to commercial banks. So bank rate is known as the central bank’s lending rate. Usually the central bank lends to commercial banks by re-discounting their bills of exchange. Bank rate is also known as the re-discount rate.

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In order to correct excess demand or inflationary situations, Central Bank increase bank rate. Consequent upon an increase in bank rate, commercial banks raise their lending rate to the general public. This makes the borrowing from commercial banks costlier. Therefore, businessmen and enterprises reduce borrowing and cut investment. As a result, income of the people declines and demand for goods is curtailed. In this way, the situation of excess demand or inflation is checked.

Likewise, central bank can control the state or deficient demand or deflation by reducing the bank rate.

(ii) Open Market Operations:

Open market operation refers to the purchase and sale of Government securities by the Central bank in open market.

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In order to correct the excess demand or inflation, the central bank sells securities to the commercial banks and general public. When commercial banks buy securities, their cash reserves are reduced directly. When people buy securities, they make large withdraw of cash from commercial banks. Here their cash reserves are diminished indirectly. Consequently, commercial banks’ capacity to create credit is curtailed. This leads to a reduction in the volume of investment on the part of businessmen and entrepreneurs and a decline in national income. As a result, the state of excess demand or inflation is checked.

On the contrary, central bank can correct the state of deficient demand or deflation by purchasing securities in the open market.

(iii) Variable cash reserve ratio:

According to the law, each commercial bank has to keep a part of its deposits with the central bank is a ratio known as the cash reserve ratio (CRR).

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Central bank can increase or decrease this ratio; therefore, it is known as the variable cash this ratio. It is very powerful instrument of credit control.

In order to correct the state of excess demand or inflation central bank increase the cash reserve ratio (CRR). So commercial banks are required to keep larger amount of cash reserves with the central bank and consequently, amount of cash available with them is reduced. This leads to a decline in the credit creating capacity of commercial banks. When smaller amount of credit is given to the entrepreneurs, investment falls. Consequently, national income declines and the state of excess demand are checked.

Likewise, the central bank can correct the state of deficient demand or deflation by reducing the cash reserve ratio (CRR).

However, the quantitative measures of credit control are not so much effective in according excess demand and deficient demand particularly in less developed countries.

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