Trade policy review report by the secretariat


  Monetary and Exchange Rate Policy



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1.3  Monetary and Exchange Rate Policy


              1. The Reserve Bank of India (RBI) formulates, implements, and monitors monetary policy. On 20 February 2015, the Government signed an agreement with the RBI on a monetary policy framework, which is intended to meet the challenge of an increasingly complex economy.22 The main objective of monetary policy to be operated by the Reserve Bank will primarily be to maintain price stability while keeping in mind growth objectives. As per the agreement, the RBI will aim to bring inflation below 6% by January 2016 and the target for financial year 2016-17 and all subsequent years will be 4% with a band of +/- 2 percentage points. Inflation is the year-on-year change in the monthly Consumer Price Index – Combined expressed in percentage terms. The RBI is required to publish the operating target(s) and establish an operating procedure of monetary policy through which the operating target will be achieved so as to explain the deviation from the target band for three consecutive quarters from 2016-17.

              2. The RBI has recently been focusing on containing inflation and tightening its monetary policy stance, although in 2015 this stance was slightly eased. In May 2011, following the change in policy stance to fix only one rate, the repo rate was increased to 7.25%.23 The rate was then increased several times, to 8% on 28 January 2014. On 15 January 2015, the rate was lowered by 0.25 percentage point to 7.75%, and on 4 March 2015 it was brought down by 25 basis points to 7.5%. In the Sixth Bi-Monthly Monetary Policy statement of 2014-15 issued on 3 February 2015, the statutory liquidity ratio (SLR) of scheduled commercial banks was lowered by 0.5 percentage points from 22% to 21.5% of their net time deposit liabilities (NDTL) with effect from 7 February 2015. In addition, export credit refinance was withdrawn and replaced with system level liquidity.24

              3. Regarding other monetary policy measures, banks were required, inter alia, to meet at least 99% of the cash reserve ratio (CRR) on a daily basis, and limit the provision of liquidity under the Liquidity Adjustment Facility (LAF) to 0.5% of the bank's own NDTL; the statutory liquidity ratio (SLR) of scheduled commercial banks was lowered by 0.5 percentage points from 22% to 21.5% of their NDTL in February 2015.25

              4. Reforms in India's monetary policy are gradually being adopted in accordance with an RBI expert committee's recommendation in January 201426, such as the adoption of the CPI, instead of the wholesale price index (WPI)27, as the key measure of inflation, and making a transition from a quarterly to a bi-monthly monetary policy cycle since April 2014.

              5. India's exchange rate is classified by the IMF as floating, determined by the interbank market. The RBI may intervene in the market when deemed necessary, such as to modulate excessive volatility in order to maintain orderly conditions, in accordance with its general monetary policy stance. In 2014, subject to certain conditions, India allowed all residents and non-residents (except citizens of Pakistan and Bangladesh) to take out Indian rupee notes up to Rs 25,000 when leaving the country28; in the case of Nepal and Bhutan there is no limit on rupee notes to be carried into or taken out of India for denomination below Rs 100 only.

1.4  Balance of Payments


              1. India's current account deficit increased up until 2012-13; it declined significantly. While India posts a structural merchandise trade deficit, it has a sizeable surplus in the services balance. During the period under review, the merchandise trade deficit moderated and the services trade surplus increased (Table 1.4).

Table 1.4 Balance of payments, 2010-15

(US$ million)






2010-11

2011-12

2012-13

2013-14

2014-15a

Current account

-47,909

-78,179

-87,843

-32,358

-17,940

Goods and services balance

-83,084

-125,661

-130,741

-74,644

-37,145

Goods balance

-127,164

-189,690

-195,656

-147,609

-73,214

Exports f.o.b.

256,318

309,843

306,581

318,607

166,974

Imports c.i.f.

383,481

499,533

502,237

466,216

240,188

Services balance

44,080

64,029

64,914

72,965

36,069

Receipts

124,635

140,935

145,677

151,475

75,925

Transportation

14,298

18,257

17,334

17,380

8,992

Travel

15,793

18,462

17,999

17,922

9,225

Construction

677

804

1,004

1,339

841

Insurance and pension

1,945

2,632

2,227

2,121

1,138

Financial

6,508

5,967

4,949

6,650

2,944

Charges for use of intellectual property

193

281

302

585

274

Computer, information, and telecommunications

55,217

63,972

67,785

72,010

36,257

Other business

22,823

24,557

28,447

28,482

14,144

Personal, cultural, and recreational

227

393

911

1,323

624

Government goods and services, n.e.s.

531

478

574

488

270

Other

6,424

5,133

3,962

2,809

1,089

Payments

80,555

76,906

80,763

78,510

39,856

Transportation

13,947

16,454

14,806

14,792

8,041

Travel

11,026

13,762

11,823

11,810

7,961

Construction

1,157

1,006

1,220

1,236

564

Insurance and pension

1,400

1,497

1,409

1,116

565

Financial

7,483

7,984

4,633

5,814

2,266

Charges for use of intellectual property

2,424

3,207

4,159

3,980

2,314

Computer, information, and telecommunications

3,748

3,258

3,511

3,928

2,025

Other business

26,626

25,467

30,349

27,189

13,086

Personal, cultural, and recreational

543

275

616

831

738

Government goods and services, n.e.s.

820

780

813

979

500

Other

11,382

3,214

7,011

6,525

1,674

Income balance

-17,951

-15,987

-21,455

-23,028

13,554

Credit

9,587

10,144

10,276

11,352

5,319

Debit

27,537

26,130

31,731

34,380

18,873

Secondary income

53,125

63,469

64,353

65,315

32,759

Credit

55,618

66,129

67,696

69,948

35,016

Debit

2,494

2,660

3,343

4,633

2,258

Capital account

40

-61

-294

659

3

Gross acquisitions/disposals of non-produced non-financial assets

25

-86

-71

6

5

Capital transfers

16

25

-223

652

9

Financial account

50,505

80,673

85,449

32,581

20,459

Direct investment

11,834

22,061

19,819

21,564

16,183

Foreign direct investment in India

29,029

32,952

26,953

30,763

16,763

India's direct investment abroad

-17,195

-10,892

-7,134

-9,199

580

Portfolio investment

28,243

16,573

26,704

4,802

22,202

Portfolio investment in India

29,422

16,812

27,582

5,009

22,337

Portfolio investment by India

-1,179

-239

-878

-207

135

Financial derivatives (other than reserves) and employee stock options

0

0

-45,173

2,006

26

Other investment

23,478

29,208

45,173

19,717

176

Other equity

2,049

597

187

20

0

Currency and deposits

3,768

12,095

15,312

39,386

6,702

Loans

18,295

16,770

10,726

-1,129

3,210

Trade credit and advances

12,034

6,668

21,657

-5,044

69

Other

-12,668

-6,922

-2,708

-13,443

338

Reserve assets

-13,050

12,831

-3,826

-15,508

18,076

Errors and omission

-2,636

-2,432

2,688

-882

2,522

a April to September 2014.

Source: Reserve Bank of India online information, "RBI Bulletin". Viewed at: http://rbi.org.in/scripts/BS_ViewBulletin.aspx.



              1. India's current account deficit reflects the extent by which gross domestic investment needs exceed gross domestic savings; during the review period, public investment was consistently greater than public sector savings. The financing of the current account deficit has not been a problem: there have been large capital inflows on average, both as foreign direct investment (FDI) and as portfolio investment. Nonetheless, capital inflows have been highly volatile in recent years; there was substantial decline in portfolio investment in 2013-14. The Government has adopted measures to increase capital inflows; these include: (i) increasing the cap for foreign institutional investment in government securities29 and corporate bonds, deregulating the interest rate on non residents' deposits, allowing public financial institutions to raise funds abroad through quasi sovereign bonds, and easing restrictions on external commercial borrowing.30 It would appear that net portfolio investment in India rose in 2014-15. The authorities consider that these measures, in combination with a decline in the current account deficit and revival in equity flows, have helped in building up foreign exchange reserves in 2013-14 and 2014-15 to date.


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