Methods of Credit Control

Quantitative Credit Control
Bank Rate Policy
Cash Reserve Ratio
Open Market Operation
Statutory Liquidity Ratio
Qualitative Credit Control
Margin Money
Credit Authorization
Moral Suasion
Credit Rationing

Quantitative Credit Control

Quantitative measures of credit control are those which affect the overall supply of money in an economy. These measures do not restrict the flow of credit to some specific sectors of the economy.

Credit Control

Bank Rate Policy:

Bank rate policy is used as the main instrument of monetary control during inflation. When the Central Bank raises the bank rate, it is said to have adopted a dear money policy. The increase in bank rate increases the cost of borrowing which reduces commercial banks borrowing from the Central Bank. Consequently, the flow of money from commercial banks to the public reduces. Therefore, inflation arising because bank credit is controlled.

Cash Reserve Ratio (CRR):

The CRR is the necessary minimum percentage of a bank’s total deposits that is to be kept with the Central Bank. According to the RBI Act, 1934, every commercial bank needs to maintain with the Central Bank a certain percentage of their deposits in the form of cash reserves. By an amendment of the Act in 1962, the Central Bank can vary the CRR between 3% and 15% of the total deposits of commercial banks.

During inflation, the Central Bank increases the CRR, and thereby the funds for providing loans with the commercial banks decrease. In this process, the flow of credit and the aggregate demand is reduced. Thus, the process of credit creation by the commercial bank is checked and helps control inflation. On the other hand, the RBI reduces the CRR to curb the deflation situation.

Open Market Operation:

Open market operations refer to the sale and purchase of government securities and bonds by the Central Bank. While controlling inflation, the Central Bank sells
government securities to the public through banks. This results in the transfer of a part of bank deposits to the Central Bank account and reduces the credit creation capacity of commercial banks.

Statutory Liquidity Ratio (SLR):

SLR is the fixed percentage of assets in the form of cash or other liquid assets which a bank must maintain with the Central Bank. The Central Bank can vary the SLR between 20% and 40%.

Qualitative Credit Control

Qualitative measures of credit control are those which focus on the alternative uses of credit in an economy. These measures control the flow of credit to specified areas of economic activity.

Margin Money:

This implies the minimum margins to be kept by the borrowers with commercial banks while borrowing money against specific securities from commercial banks.

Credit Authorization Scheme:

This shows the ceiling on the amount of credit for certain purposes and requires the prior sanction of the RBI.

Moral Suasion:

Moral suasion is a mixture of both persuasion and pressure. The Central Bank makes an attempt to persuade commercial banks to follow its directives of monetary policy or it can pressurize them to follow its policy directives. When it fails to work, the Central Bank can use direct action which includes the non-recognition of a commercial bank.

Rationing of Credit:

The quota system was introduced in 1960. The RBI fixes credit quota for member banks. If the member bank seeks more loan than their fixed quota, they will have to pay higher interest.

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Central Banking

Public Revenue

Commercial Bank

Elasticity of Demand

Taxes ~ Direct & Indirect Taxes

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