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Reserve Bank of India (RBI) Research Team | Posted On Saturday, February 21,2009, 06:29 PM

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Reserve Bank of India (RBI)



Reserve Bank of India (RBI) is the central bank of the country. It was established in April 1935 with a share capital of Rs. 5 crores on the basis of the recommendations of the Hilton Young Commission. The share capital was divided into shares of Rs. 100 each fully paid which was entirely owned by private shareholders in the beginning. The Government held shares of nominal value of Rs. 2, 20,000.

RBI was nationalized in the year 1949. The general superintendence and direction of the Bank is entrusted to Central Board of Directors comprising of 20 members, the Governor and four Deputy Governors, one Government official from the Ministry of Finance, ten nominated Directors by the Government to give representation to important factors in the economic life of the country, and four nominated Directors by the Central Government to represent the four local Boards with the headquarters at Mumbai, Kolkata, Chennai and New Delhi. Local Boards consist of five members, all of them are appointed by the Central Government for a term of four years to represent territorial and economic interests and the interests of co-operative and indigenous banks.

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The Reserve Bank of India Act, 1934 was commenced on April 1, 1935. It provides the statutory basis of the functioning of the Bank. RBI was constituted for the need of following :

  • To regulate the issue of banknotes
  • To maintain reserves with a view to securing monetary stability
  • To operate the credit and currency system of the country to its advantage

Functions of Reserve Bank of India

The Reserve Bank of India Act of 1934 delegate all the important functions of a central bank the. Following are the important functions of RBI.

Issue of Bank Notes

Reserve Bank has the sole right to issue bank notes of all denominations. The printing of one rupee note and coins are done by the ministry of finance. But the distribution all over the country is undertaken by the Reserve Bank as agent of the Government. The Reserve Bank has a separate Issue Department which is entrusted with the issue of currency notes. The assets and liabilities of the Issue Department are separate from those of the Banking Department. The assets of the Issue Department were to consist of not less than two-fifths of gold coin, gold bullion or sterling securities provided the amount of gold was not less than Rs. 40 crores in value. The remaining three-fifths of the assets might be held in Government of India rupee securities, in rupee coins, eligible bills of exchange and promissory notes payable in India. Due to the exigencies of the Second World War and the post-war period, these provisions were considerably customized. Since 1957, the Reserve Bank of India is required to maintain gold and foreign exchange reserves of Rs. 200 crores, of which at least Rs. 115 crores should be in gold. The system as it exists today is known as the minimum reserve system.

See Also: Know Functions and Responsibilities of the Reserve Bank Of India

Acts as the Banker to Government

The second important function of the Reserve Bank of India is to act as Government’s banker, agent and adviser. The Reserve Bank is the agent of Central Government and of all State Governments in India excepting Jammu and Kashmir. The Reserve Bank has the obligation to transact Government business, to keep the cash balances as deposits free of interest, to receive and make payments on behalf of the Government and to carry out activities like exchange remittances and other banking operations. The Reserve Bank of India help both the Union and State Government to float new loans and to manage public debt. The Bank makes ways and means advances to the Governments for 90 days. It makes loans and advances to the States and local governments and also acts as adviser to the Government on all monetary and banking matters.

Acts as the Bankers' Bank

The Reserve Bank of India acts as the bankers' bank. According to the provisions of the Banking Companies Act of 1949, every scheduled bank is required to maintain a cash balance of a predetermine percentage of its demand liabilities and time liabilities with the Reserve Bank of India. By an amendment of 1962, the distinction between demand and time liabilities was abolished and banks have been asked to keep cash reserves equal to 3 per cent of their aggregate deposit liabilities. The minimum cash requirements to be maintained can be changed by the Reserve Bank of India.

See Also: Monetary Policy of Reserve Bank of India

Lender of the Last Resort

The scheduled banks can borrow from the Reserve Bank of India on the basis of eligible securities. They can get financial accommodation in times of need or stringency also by rediscounting bills of exchange. Since commercial banks can always expect the Reserve Bank of India to come to their help in times of banking crisis or emergency, the Reserve Bank becomes the lender of the last resort.

Controller of Credit

The Reserve Bank of India is the controller of credit; it has the power to influence the volume of credit created and maintained by banks in India. It can do so through changing the Bank rate or through open market operations. According to the Banking Regulation Act of 1949, the Reserve Bank of India can ask any bank or the whole banking system not to lend to particular groups or persons on the basis of certain types of securities. Since 1956, selective controls of credit are increasingly being used by the RBI.

The Reserve Bank of India has with many more powers to control the Indian money market and financial market. To do banking business within India, every bank has to get a license from the Reserve Bank of India the license can be cancelled by the RBI if certain stipulated conditions are not fulfilled. Each bank will have to get the permission of the Reserve Bank before it can open a new branch. Every scheduled bank must send a weekly report to the Reserve Bank showing, in detail, its assets and liabilities. This power of the Bank to call for information is also intended to give it effective control of the credit system. The Reserve Bank has also the power to inspect the accounts of any commercial bank at any time.

See Also: Role of Government and RBI in Money Market

As the supreme banking authority in the country, the Reserve Bank of India, has the following powers :

  • It controls the credit operations of banks through quantitative and qualitative controls.
  • It holds the cash reserves of all the scheduled banks.
  • It acts as the lender of the last resort by providing rediscount facilities to scheduled banks.
  • It controls the banking system through the system of licensing, inspection and calling for information.

Custodian of Foreign Reserves

The Reserve Bank of India has the responsibility to maintain the official rate of foreign exchange. According to the RBI Act of 1934, the Bank is required to buy and sell at fixed rates any amount of sterling in lots of not less than Rs. 10,000. Since 1935 the Bank was able to maintain the exchange rate fixed at lsh.6d. though there were periods of extreme pressure in favour or against the rupee. After India became a member of the International Monetary Fund in 1946, the Reserve Bank has the responsibility of maintaining fixed exchange rates with all other member countries of the I.M.F.

in addition to maintaining the rate of exchange of the rupee, the Reserve Bank has to act as the custodian of India's reserve of international currencies. The huge sterling balances were acquired and managed by the Bank. RBI has to administer the exchange controls of the country.

Supervisory Functions

Apart from its traditional central banking functions, the Reserve bank has certain non-monetary functions of the nature of supervision of banks and promotion of sound banking in India. The Reserve Bank Act, 1934, and the Banking Regulation Act, 1949 have given the RBI broad powers of supervision and control over commercial and co-operative banks, relating to licensing and establishments, branch expansion, liquidity of their assets, management and methods of working, amalgamation, reconstruction, and liquidation. The RBI is certified to carry out periodical inspections of the banks and to call for returns and necessary information from them. The nationalization of 14 major Indian scheduled banks in July 1969 has forced new responsibilities on the RBI for directing the growth of banking and credit policies towards more rapid development of the economy and realization of certain preferred social objectives. The supervisory functions of the RBI have helped a great deal in improving the standard of banking in India to build up on sound lines and to improve the methods of their function.

Promotional Functions

By expecting a growth in the country’s economy, the range of the Reserve Bank's functions has steadily widened. The Bank now performs a variety of developmental and promotional functions, which were regarded as outside the normal scope of central banking. The Reserve Bank was asked to promote banking habit, extend banking facilities to rural and semi-urban areas, establish and promote new specialized financing agencies. Consequently, the Reserve Bank has helped in the setting up of the IFCI and the SFC; it set up the Deposit Insurance Corporation in 1962, the Unit Trust of India in 1964, the Industrial Development Bank of India also in 1964, the Agricultural Refinance Corporation of India in 1963 and the Industrial Reconstruction Corporation of India in 1972. These institutions were set up directly or indirectly by the Reserve Bank to promote saving habit, to mobilize savings, and to provide industrial finance as well as agricultural finance. In 1935, the Reserve Bank of India set up the Agricultural Credit Department to provide agricultural credit. But only since 1951 the Bank's role in this field has become extremely significant. The Bank has developed the co-operative credit movement to encourage saving, to eliminate moneylenders from the villages and to route its short term credit to agriculture. The RBI has set up the Agricultural Refinance and Development Corporation to provide long-term finance to farmers in rural india.

Classification of RBIs Functions

The monetary functions also known as the central banking functions of the RBI. It is related to the control and regulation of money and credit, i.e., issue of currency, control of bank credit, control of foreign exchange operations, banker to the Government and to the money market. Monetary functions of the RBI are significant as they control and regulate the volume of money and credit in the country.

The supervisory function of the RBI may be regarded as a non-monetary function. The promotion of sound banking in India is an important goal of the RBI, the RBI has been given wide and drastic powers, under the Banking Regulation Act of 1949 - these powers relate to licensing of banks, branch expansion, liquidity of their assets, management and methods of working, inspection, amalgamation, reconstruction and liquidation. Under the RBI's supervision and inspection, the functioning of banks has greatly improved. Commercial banks have developed into financially and operationally sound units. The RBI's powers of supervision have now been extended to non-banking financial intermediaries. Since independence, particularly after its nationalization, the RBI has followed the promotional functions dynamically and has been responsible for strong financial support to industrial and agricultural development in the country.

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