Role of Reserve Bank of India (RBI) in Indian Economy

Recommended reading: India’s apex bank: The Reserve Bank of India(RBI), it’s objectives and functions

Bank Issue:

Under Section 22 of the Reserve Bank of India Act, the bank has the sole sight to issue bank notes of all denominations. The notice issued by the Reserve bank has the following advantages:

  • It brings uniformity to note issue.
  • It is easier to control credit when there is a single agency of note issue.
  • It keeps the public faith in the paper currency alive.
  • It helps in the stabilization of the internal and external value of the currency and
  • Credit can be regulated according to the needs of the business.

The system of note issue as it exists today is known as the minimum reserve system. The currency notes issued by the Bank arid legal tender everywhere in India without any limit. At present, the Bank issues notes in the following denominations: Rs. 2, 5, 10, 20, 50 100, and 500. The responsibility of the Bank is not only to put currency into, or withdraw it from, the circulation but also to exchange notes and coins of one denomination into those of other denominations as demanded by the public. All affairs of the Bank relating to note issue are conducted through its Issue Department.

Banker, Agent and Financial Advisor to the State:

As a banker agent and financial advisor to the State, the Reserve Bank performs the following functions:

  • It keeps the banking accounts of the government.
  • It advances short-term loans to the government and raises loans from the public.
  • It purchases and sells through bills and currencies on behalf to the government.
  • It receives and makes payment on behalf of the government.
  • It manages public debt and
  • It advises the government on economic matters like deficit financing price stability, management of public debts. etc.

Banker to the Banks:

It acts as a guardian for the commercial banks. Commercial banks are required to keep a certain proportion of cash reserves with the Reserve bank. In lieu of this, the Reserve bank provide them various facilities like advancing loans, underwriting securities etc. The RBI controls the volume of reserves of commercial banks and thereby determines the deposits/credit creating ability of the banks. The banks hold a part or all of their reserves with the RBI. Similarly, in times of their needs, the banks borrow funds from the RBI. It is, therefore, called the bank of last resort or the lender of last resort.

Custodian of Foreign Exchange Reserves:

It is the responsibility of the Reserve bank to stabilize the external value of the national currency. The Reserve Bank keeps golds and foreign currencies as reserves against note issue and also meets adverse balance of payments with other counties. It also manages foreign currency in accordance with the controls imposed by the government.

As far as the external sector is concerned, the task of the RBI has the following dimensions:

  • To administer the foreign Exchange Control;
  • To choose ,the exchange rate system and fix or manages the exchange rate between the rupee and other currencies;
  • To manage exchange reserves;
  • To interact or negotiate with the monetary authorities of the Sterling Area, Asian Clearing Union, and other countries, and with International financial institutions such as the IMF, World Bank, and Asian Development Bank.

The RBI is the custodian of the country’s foreign exchange reserves, id it is vested with the responsibility of managing the investment and utilization of the reserves in the most advantageous manner. The RBI achieves this through buying and selling of foreign exchange market, from and to schedule banks, which, are the authorized dealers in the Indian, foreign exchange market. The Bank manages the investment of reserves in gold counts abroad’ and the shares and securities issued by foreign governments and international banks or financial institutions.

Lender of the Last Resort:

At one time, it was supposed to be the most important function of the Reserve Bank. When Commercial banks fail to meet obligations of their depositors the Reserve Bank comes to their rescue as the lender of the last resort, the Reserve Bank assumes the responsibility of meeting directly or indirectly all legitimate demands for accommodation by the Commercial Banks under emergency conditions.

Banks of Central Clearance, Settlement and Transfer:

The commercial banks are not required to settle the payments of their mutual transactions in cash, It is easier to effect clearance and settlement of claims among them by making entries in their accounts maintained with the Reserve Bank, The Reserve Bank also provides the facility for transfer to money free of charge to member banks.

Controller of Credit:

In modern times credit control is considered as the most crucial and important functional of a Reserve Bank. The Reserve Bank regulates and controls the volume and direction of credit by using quantitative and qualitative controls. Quantitative controls include the bank rate policy, the open market operations, and the variable reserve ratio. Qualitative or selective credit control, on the other hand includes rationing of credit, margin requirements, direct action, moral suasion publicity, etc. Besides the above mentioned traditional functions, the Reserve Bank also performs some promotional and supervisory functions. The Reserve Bank promotes the development of agriculture and industry promotes rural credit, etc. The Reserve Bank also acts as an agent for the international institutions as I.M.F., I.B.R.D., etc.

Supervisory Functions:

In addition to 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 supervisory functions of the RBI have helped a great deal in improving the methods of their operation. The Reserve Bank Act, 1934, and Banking Regulation Act, 1949 have given the RBI wide powers of:

  • Supervision and control over commercial and cooperative banks, relating to licensing and establishments.
  • Branch expansion.
  • Liquidity of their assets.
  • Management and methods of working, amalgamation reconstruction and liquidations.

The RBI is authorized to carry out periodical inspections off the banks and to call for returns and necessary information from them.

Promotional Role

A striking feature of the Reserve Bank of India Act was that it made agricultural credit the Bank’s special responsibility. This reflected the realisation that the country’s central bank should make special efforts to develop, under its direction and guidance, a system of institutional credit for a major sector of the economy, namely, agriculture, which then accounted for more than 50 per cent of the national income. However, major advances in agricultural finance materialised only after India’s independence. Over the years, the Reserve Bank has helped to evolve a suitable institutional infrastructure for providing credit in rural areas.

Another important function of the Bank is the regulation of banking. All the scheduled banks are required to keep with the Reserve Bank a consolidated 3 per cent of their total deposits, and the Reserve Bank has power to increase this percentage up to 15. These banks must have capital and reserves of not less than Rs.5 lakhs. The accumulation of these balances with the Reserve Bank places it in a position to use them freely in emergencies to support the scheduled banks themselves in times of need as the lender of last resort. To a certain extent, it is also possible for the Reserve Bank to influence the credit policy of scheduled banks by means of an open market operations policy, that is, by the purchase and sale of securities or bills in the market. The Reserve bank has another instrument of control in the form of the bank rate, which it publishes from time to time.

Further, the Bank has been given the following special powers to control banking companies under the Banking Companies Act, 1949:

  • The power to issue licenses to banks operating in India.
  • The power to have supervision and inspection of banks.
  • The power to control the opening of new branches.
  • The power to examine and sanction schemes of arrangement and amalgamation.
  • The power to recommend the liquidation of weak banking companies.
  • The power to receive and scrutinize prescribed returns, and to call for any other information relating to the banking business.
  • The power to caution or prohibit banking companies generally or any banking company in particular from entering into any particular transaction or transactions.
  • The power to control the lending policy of, and advances by banking companies or any particular bank in the public interest and to give directions as to the purpose for which advances mayor may not be made, the margins to be maintained in respect of secured advances and the interest to be charged on advances.

About Abey Francis

Abey Francis is the founder of MBAKnol - A Blog about Management Theories and Practices - and he's always happy to share his passion for innovative management practices. You can found him on Google+ and Facebook. If you’d like to reach him, send him an email to:
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  1. wanted to know about the benefits of rbi as a custodian of foreign exchange?


  3. i want to know about the recent annual reports of the RBI.


  5. it is useful and intresting thanks for this………..

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