Monetary Policy — MPC, Repo Rate, CRR, SLR, LAF, MSF, OMO, and All RBI Tools

Monetary policy refers to the policy of the central bank (RBI) to regulate money supply, credit availability, and interest rates in the economy. This is one of the most frequently tested topics in PSC exams.

Monetary Policy Framework

Aspect	Detail
Authority	Reserve Bank of India (RBI)
Objective	Price stability (primary), growth, financial stability
Target	Inflation targeting — CPI inflation at 4% (+/- 2%)
Legal basis	RBI Act, 1934 (amended 2016 for MPC)
Frequency	MPC meets at least 4 times a year (bimonthly currently — 6 meetings)
Two types	Expansionary (easy money) and Contractionary (tight money)

Monetary Policy Committee (MPC)

Established in 2016 under Section 45ZB of the RBI Act (amended by Finance Act, 2016).

Feature	Detail
Total members	6
RBI members (3)	RBI Governor (Chairperson), Deputy Governor (monetary policy), one RBI officer
Government-nominated (3)	Appointed by Central Government on recommendation of a search committee
Quorum	4 members
Voting	Each member has one vote; Governor has casting vote in case of tie
Term of external members	4 years (not eligible for reappointment)
Decision	By majority vote of members present and voting
Current Governor	Sanjay Malhotra (from December 2024)

Quantitative (General) Tools of Monetary Policy

1. Bank Rate

Aspect	Detail
Definition	Rate at which RBI lends long-term funds to commercial banks
Impact	Increase in bank rate = costlier credit = contractionary
Current rate	6.75% (as of April 2025 — subject to change)
Difference from Repo	Bank rate is for long-term; repo rate is for short-term (overnight/short-period)

2. Repo Rate (Repurchase Rate)

Aspect	Detail
Definition	Rate at which RBI lends short-term money to commercial banks against government securities
Mechanism	Banks sell securities to RBI with agreement to repurchase them
Impact	Repo rate up = borrowing costlier = less money supply = contractionary
Current rate	6.00% (as of April 2025 — after 25 bps cut)
Policy rate	Repo rate is the key policy rate since 2016

3. Reverse Repo Rate

Aspect	Detail
Definition	Rate at which RBI borrows money from commercial banks
Mechanism	Banks park excess funds with RBI and earn interest
Impact	Reverse repo up = banks prefer to park with RBI = less lending = contractionary
Relation	Always lower than repo rate
Note	Since 2023, Standing Deposit Facility (SDF) rate has replaced reverse repo as the floor rate

4. Standing Deposit Facility (SDF)

Aspect	Detail
Introduced	April 2022
Definition	RBI absorbs surplus liquidity from banks without giving collateral
Rate	Repo rate minus 25 bps
Significance	Replaced reverse repo as the floor of LAF corridor

5. Marginal Standing Facility (MSF)

Aspect	Detail
Definition	Emergency overnight borrowing window for banks from RBI
Rate	Repo rate plus 25 bps
Collateral	Banks can dip into SLR securities up to 2%
Who can use	Scheduled Commercial Banks only
Significance	Ceiling of the LAF corridor

6. Cash Reserve Ratio (CRR)

Aspect	Detail
Definition	Percentage of net demand and time liabilities (NDTL) that banks must keep as cash with RBI
Current rate	4.0% (as of April 2025)
No interest	RBI does not pay interest on CRR deposits
Impact	CRR up = less money available for lending = contractionary
Range	RBI can set CRR between 3% and 15% (no upper limit after 2006 amendment)

7. Statutory Liquidity Ratio (SLR)

Aspect	Detail
Definition	Percentage of NDTL that banks must maintain in liquid assets (cash, gold, government securities)
Current rate	18.0% (as of April 2025)
Impact	SLR up = less money for private lending = contractionary
Range	Maximum 40% of NDTL
Key difference from CRR	CRR = cash with RBI; SLR = liquid assets with the bank itself

8. Open Market Operations (OMO)

Aspect	Detail
Definition	RBI buying/selling government securities in the open market
Buying securities	Injects liquidity = expansionary
Selling securities	Absorbs liquidity = contractionary
Permanent effect	Unlike LAF which is temporary, OMO has permanent effect on money supply

Liquidity Adjustment Facility (LAF)

Component	Rate	Direction
MSF	Repo + 25 bps	Ceiling (banks borrow from RBI at higher rate)
Repo	Policy rate	Midpoint
SDF	Repo - 25 bps	Floor (banks deposit with RBI)

LAF Corridor Width: 50 bps (from SDF to MSF)

Qualitative (Selective) Tools

Tool	Description
Margin requirements	RBI prescribes margin on loans against specific securities (higher margin = less credit)
Moral suasion	RBI persuades banks through appeals, meetings, advice
Credit rationing	Fixing maximum limit of loans for specific sectors
Direct action	Penalties on banks not complying with RBI directives
Priority sector lending (PSL)	Banks must lend 40% of adjusted net bank credit to priority sectors

Expansionary vs Contractionary Policy

Action	Expansionary (Easy Money)	Contractionary (Tight Money)
Repo rate	Decrease	Increase
Reverse repo / SDF	Decrease	Increase
CRR	Decrease	Increase
SLR	Decrease	Increase
OMO	Buy securities	Sell securities
Bank rate	Decrease	Increase
When used	Recession, low growth, deflation	Inflation, overheating economy

Important Rates at a Glance (April 2025)

Rate	Current Value
Repo Rate	6.00%
SDF Rate	5.75%
MSF Rate	6.25%
Bank Rate	6.25%
CRR	4.0%
SLR	18.0%

Note: Rates are subject to change after each MPC meeting.

Key Differences Table (PSC Favourite)

Feature	CRR	SLR
Maintained as	Cash with RBI	Liquid assets with bank
Interest earned	No	Yes (on government securities)
Purpose	Control money supply	Ensure bank solvency
Range	No statutory upper limit	Maximum 40%
Section of RBI Act	Section 42	Section 24

Feature	Repo Rate	Bank Rate
Tenure	Short-term (overnight)	Long-term
Collateral	Government securities (with repurchase agreement)	Not specific (rediscounting bills)
Usage	Day-to-day liquidity	Penalty rate, long-term signal
Policy relevance	Key policy rate	Less used now

Frequently Asked PSC Questions

Q1. How many members are on the Monetary Policy Committee? Ans: 6 (3 from RBI + 3 nominated by Central Government)

Q2. What is the inflation target under the monetary policy framework? Ans: 4% CPI inflation (with tolerance band of +/- 2%, i.e., 2% to 6%)

Q3. What is the difference between CRR and SLR? Ans: CRR is cash kept with RBI (no interest); SLR is liquid assets (cash, gold, G-secs) maintained by the bank itself

Q4. What is MSF? Ans: Marginal Standing Facility — emergency overnight borrowing from RBI at repo rate + 25 bps; banks can dip into SLR up to 2%

Q5. What happens when RBI buys government securities in OMO? Ans: Money is injected into the banking system (expansionary effect)

Q6. Who has the casting vote in the MPC? Ans: The RBI Governor

Q7. When was the MPC established? Ans: 2016 (under the Finance Act, 2016, amending the RBI Act, 1934)

Q8. What replaced reverse repo as the floor of the LAF corridor? Ans: Standing Deposit Facility (SDF), introduced in April 2022