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Question 33

In the context of Indian economy, which of the following is/are the purpose/purposes of 'Statutory Reserve Requirements'?
1. To enable the Central Bank to control the amount of advances the banks can create
2. To make the people's deposits with banks safe and liquid
3. To prevent the commercial banks from making excessive profits
4. To force the banks to have sufficient vault cash to meet their day-to-day requirements
Select the correct answer using the code given below.

AOptions

A) 1 only

B) 1 and 2 only

C) 2 and 3 only

D) 1, 2, 3 and 4

BSolution

Statutory Reserve Requirements, such as the Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR) in India, are powerful tools of monetary policy primarily used by the Central Bank (Reserve Bank of India) to manage liquidity and control credit in the economy.

Statement 1: To enable the Central Bank to control the amount of advances the banks can create. This is the most accurate and primary purpose. By altering CRR or SLR, the RBI directly influences the amount of funds commercial banks have available for lending (creating advances/credit). A higher CRR/SLR reduces lending capacity, thus controlling inflation, and vice versa.
Statement 2: To make the people's deposits with banks safe and liquid. While maintaining reserves contributes indirectly to banking stability, the primary mechanism for deposit safety is deposit insurance (e.g., DICGC in India) and robust banking regulations, not primarily reserve requirements.
Statement 3: To prevent the commercial banks from making excessive profits. This is not a direct or stated objective. While reserve requirements might impact profitability, their main goal is monetary control, not profit limitation.
Statement 4: To force the banks to have sufficient vault cash to meet their day-to-day requirements. CRR mandates banks to keep a portion of their deposits with the RBI, not necessarily as vault cash. SLR mandates investment in specific liquid assets. Banks manage day-to-day liquidity through various other tools like inter-bank borrowing, not solely through statutory reserves. The core purpose is monetary control, not just meeting daily cash needs.

Therefore, only statement 1 correctly describes the primary purpose of statutory reserve requirements.

CStrategy

For questions on economic policy tools, identify their primary objective. Distinguish between direct goals and indirect effects. Be wary of statements using absolute terms or presenting secondary benefits as primary purposes.

DSyllabus Analysis

This question falls under Indian Economy, specifically Monetary Policy, Banking Regulation, and the functions of the Reserve Bank of India.

EQuestion Analysis

Medium. Requires a precise understanding of the objectives and mechanisms of monetary policy tools, differentiating primary purposes from incidental effects.