What is Monetary Policy?
Monetary policy refers to the policy of the Reserve Bank of India (RBI) that uses various monetary instruments to regulate money supply, liquidity and interest rates in the economy.
Objective
- Maintain price stability while supporting economic growth.
- Keep inflation within the prescribed target.
- Ensure financial and macroeconomic stability.
Inflation Target
- The RBI Act, 1934 (amended in 2016) provides for a flexible inflation targeting framework.
- The Central Government, in consultation with the RBI, notifies the inflation target every five years.
- Current Target: 4% Consumer Price Index (CPI) inflation, with a tolerance band of ±2% (2%–6%).
What is the Monetary Policy Committee (MPC)?
The Monetary Policy Committee (MPC) is a statutory committee of the RBI responsible for deciding the policy repo rate to achieve the inflation target.
It was constituted under Section 45ZB of the RBI Act, 1934, following the 2016 amendment.
Composition
The MPC consists of 6 members:
- RBI Governor – Chairperson (Ex-officio)
- Deputy Governor in charge of Monetary Policy
- One RBI official nominated by the Central Board
- Three external members appointed by the Central Government.
Functions
- Decide the policy repo rate.
- Formulate India’s monetary policy.
- Achieve the inflation target while supporting growth.
- Monitor inflation and macroeconomic conditions.
Decision-Making
- Every member has one vote.
- Decisions are taken by majority.
- In case of a tie, the RBI Governor exercises the casting vote.
- The decisions of the MPC are binding on the RBI.
Major Instruments of Monetary Policy
| Instrument | Purpose |
| Repo Rate | RBI lends short-term funds to banks against government securities. |
| Reverse Repo Rate | RBI absorbs excess liquidity from banks. |
| Liquidity Adjustment Facility (LAF) | Provides or absorbs short-term liquidity through repo and reverse repo operations. |
| Marginal Standing Facility (MSF) | Emergency overnight borrowing facility for banks above the SLR limit. |
| Bank Rate | Rate at which RBI rediscounts bills and lends long-term funds to banks. |
| Cash Reserve Ratio (CRR) | Portion of banks’ deposits maintained with RBI as cash reserves. |
| Statutory Liquidity Ratio (SLR) | Portion of deposits maintained by banks in liquid assets such as government securities, cash and gold. |
| Open Market Operations (OMO) | RBI buys or sells government securities to inject or absorb durable liquidity. |
Conclusion
The Monetary Policy Committee (MPC) is the cornerstone of India’s inflation-targeting framework, ensuring a balanced approach between price stability and economic growth.
| This concept has been discussed in the following article: RBI Plans to Introduce Polymer Currency Notes from FY 2026–27 |