Stock of Money

In every economy, it is necessary for the central bank to know the stock (amount/level) of money available in the economy only then it can go for a suitable kind of credit and monetary policy. Saying simply, the credit and monetary policy of an economy are all about changing the level of the money flowing into the economic system. But it can be done only when we know the real flow of money. That’s why it is necessary to first assess the level of money flowing into the economy.

Recommendations of the Second Working Group on Money Supply (SWG)

Following the recommendations of the Second Working Group on Money Supply (SWG) in 1977, RBI has been publishing four monetary aggregates (components of money), viz., Ml, M2, M3, and M4 (are basically short terms for Money-1, Money-2, Money-3, and Money-4) besides the Reserve Money. These components are used to contain money of differing liquidities:

M1 Currency & coins with people + Demand deposits of Banks (Current & Saving Accounts) + = Other deposits of the RBI.

M2 M1 + Demand deposits of the post offices (i.e., saving schemes’ money).

M3 M1 + Time/Term deposits of the Banks (i.e., the money lying in the Recurring Deposits & = the Fixed Deposits).

M4 M3 + total deposits of the post offices (both, Demand and Term/Time Deposits).

Following the recommendations of the Working Group on Money Supply: Analytics and Methodology of Compilation (Chairman, Dr. Y. V. Reddy), which submitted its report in June 1998, the RBI has begun publishing a set of new monetary aggregates. The Working Group recommended that four monetary aggregates be compiled on the basis of the banking sector’s balance sheet in accordance with progressive liquidity norms: Mo (monetary base), M1 (narrow money), M2, and M3 (broad money).

Working Group recommendation

Aside from monetary aggregates, the Working Group recommended the creation of three liquidity aggregates: L1, L2, and L3, which include select items of financial liabilities of non-depository financial corporations such as development financial institutions and non-banking financial corporations that accept public deposits, excluding post office savings banks. The following are the New Monetary Aggregates:

Reserve Money (Mc) = Currency in circulation + Bankers’ Deposits with the RBI + `Other’59 deposits with the RBI.

Narrow Money (M1) = Currency with the Public + Demand Deposits with the Banking System + `Other’ deposits with the RBI.

M2 = M1 + Savings Deposits of Post-office Savings Banks.

Broad Money (M3) = M1 + Time Deposits with the Banking System. M4 = M3 + All deposits with Post Office Savings Banks (excluding National Savings Certificates).

While the Working Group did not recommend any changes to the definitions of reserve money and M1, it did propose a new intermediate monetary aggregate called NM2 that would sit between narrow money (which only includes the banking sector’s non-interest-bearing monetary liabilities) and broad money (which includes all currency and residents’ short-term bank deposits with contractual maturities up to and including one year) (an all-encompassing measure that includes long-term time deposits).

New broad money aggregate

In the Monetary Survey, the new broad money aggregate (referred to as NM3 for clarity) would include, in addition to NM2, resident long-term deposits and call/term borrowings from non-bank sources, which have emerged as an important source of resource mobilization for banks. The treatment of non-resident repatriable fixed foreign currency liabilities of the banking system in the money supply compilation differs significantly between M3 and NM3.

The new monetary aggregates have two major changes. First, because the post office bank is not a bank, postal deposits are no longer treated as part of the money supply, as they were in the previous M2 and M4. Second, the residency criterion was used to compile monetary aggregates to a limited extent. The Working Group recommended that monetary aggregates be compiled on the basis of residency. The country in which the holder has a center of economic interest is referred to as residency.

Non-residents’ currency and deposit holdings in the rest of the world sector would be determined by their investment portfolio. These transactions, however, are included in the balance of payments (BoP). Currency and deposit holdings are not always linked to domestic demand for monetary assets. As a result, it is argued that these transactions should be treated as external liabilities to be netted against the banking system’s foreign currency assets.

However, it could be argued that non-residents in developing countries like India, which have a large number of expatriate workers who remit their savings in the form of deposits, have a center of economic interest in their home country. Although all non-resident deposits must be separated from domestic deposits and treated as capital flows in a macroeconomic accounting framework, the underlying economic reality may indicate otherwise. Because non-resident rupee deposits are essentially integrated into the domestic financial system in India, it may not be appropriate to exclude all categories of non-resident deposits from domestic monetary aggregates.


As a result, the new monetary aggregates treat non-resident repatriable foreign currency fixed deposits as external liabilities rather than deposit liabilities. As a result, only Foreign Currency Non-Resident Accounts (Banks) [FCNR(B)] deposits are currently classified as external liabilities and excluded from the domestic money stock. Because commercial banks hold the majority of FCNR(B) deposits abroad, the monetary impact of changes in such deposits is captured through changes in commercial banks’ net foreign exchange assets. As a result, the new monetary aggregates NM2 and NM3, as well as liquidity aggregates L1, L2, and L3, have been introduced, with the following components:

NM1 Currency with the Public + Demand Deposits with the Banking System + ‘Other’ Deposits = with the RBI.

NM2 NM1 + Short Term Time Deposits of Residents (including the contractual maturity of one = year).

NM3 NM2 + Long-term Time Deposits of Residents + Call/Term Funding from Financial =         Institutions.

NM3 + All Deposits with the Post Office Savings Banks (excluding National Savings L 1 = Certificates)

L = L1 + Term deposits with Term Lending Institutions and Refinancing Institutions (FIs) + 2 Term Borrowing by FIs + Certificates of Deposit issued by FIs

L3 = L2 + Public Deposits of Non-Banking Financial Companies.

The RBI releases data on Mo on a weekly basis, while M1 and M3 data are released every two weeks. Data on L1 and L2 liquidity aggregates are released monthly, while data on L3 is released quarterly. The working group recommended that the Financial Sector Survey be published quarterly to capture the dynamic linkages between banks and the rest of the organized financial sector.

Liquidity of Money

As we progress from M1 to M4, the money’s liquidity (inertia, stability, and dependability) decreases, while its liquidity increases in the opposite direction.

Narrow Money

M1 is known as “narrow money” in banking because it is extremely liquid and cannot be used to fund lending programs.

Broad Money

In banking terms, the money component M3 is referred to as broad money. Banks run their lending programs with this money (which is held by banks for a set period of time).

Money Supply

In general, we use the term money supply to refer to money circulation and flow in the economy. The level and supply of M3 are known as money supply in banking and traditional monetary management terminology. The growth rate of broad money (M3), i.e., money supply, was not only lower than the Reserve Bank of India’s indicative growth rate, but it also decelerated in the last seven quarters and moderated to 11.2 percent in December 2012.

Aggregate bank deposits made up the majority of broad money, accounting for over 85% and remaining relatively stable. Net bank credit to the government and the commercial sector are two sources of broad money. In 2012-13, these two together accounted for nearly all of the broad money, compared to 89 percent in 2009-10.

High Power Money

All countries’ central banks have the authority to issue currency. The currency issued by the central bank is known as ‘high power money’ because it is generally backed by reserves,’ its value is guaranteed by the government, and it serves as the foundation for all other forms of money. The central bank’s currency is, in fact, the liability of both the central bank and the government. As a result, this liability must be backed by an equal amount of assets, primarily gold and foreign exchange reserves. However, most countries6° have implemented a “minimum reserve system.”

The central bank is required to keep a certain minimum reserve of gold and foreign securities under the minimum reserve system, and it has unlimited authority to issue currency. In October 1956, India adopted this system. The RBI was only required to keep a reserve of X515 crore, consisting of Rs.400 crore in foreign securities and Rs.115 crore in gold. However, due to a scarcity of foreign exchange to meet essential import bills, the minimum reserves were further reduced in 1957 to only Rs.115 crore in gold and the rest in rupee securities.

A gold reserve of Rs.115 crore, compared to the currency in circulation today of Rs.17,00,000 crore, is only 0.7 percent, which is insignificant. As a result, the Indian currency system is classified as a “managed paper currency system.” There are two sources of high-power money supply in India:

  1. RBI; and
  2. Government of India.

The RBI prints currency notes in denominations of 2, 5, 10, 20, 50, 100, 500, and 2000 rupees which the RBI refers to as “Reserve Money.” On behalf of the Government of India, the RBI issues one rupee notes and coins, as well as smaller denomination coins, accounting for about 2% of total high power money.

Minimum Reserve

The RBI must keep a reserve equivalent of Rs.200 crores in gold and foreign currency with itself, with gold accounting for Rs.115 crores. The RBI has the authority to issue currency in any amount against this reserve. This system, known as the Minimum Reserve System, has been in place since 1957. (MRS).

Reserve Money

The gross amount of the following six segments of money at any point in time is known as Reserve Money (RM) for the economy or the government:

  1. RBI’s net credit to the Government;
  2. RBI’s net credit to the Banks;
  3. RBI’s net credit to the commercial banks;
  4. net forex reserve with the RBI;
  5. government’s currency liabilities to the public;
  6. net non-monetary liabilities of the RBI. RM = 1 + 2 + 3 + 4 + 5 + 6

Money Multiplier

Due to a cumulative 125 basis point reduction in CRR, the money multiplier (ratio of M3 to M0) was 5.2 at the end of March 2014, up from 5.2 at the end of March 2015. The money multiplier remained high in 2015-16, reflecting the CRR cuts once again. The money multiplier was 6.0 on December 31, 2018, compared to 5.5 on the same date the previous year (as per the RBI).

Credit Counselling

Credit counseling is the process of advising borrowers on how to get out of debt and improve their money management skills. In 1951, credit grantors established the National Foundation for Credit Counselling (NFCC), which became the first well-known credit counseling organization.

India’s sovereign debt is typically rated by six major global sovereign credit rating agencies (SCRAs):

  1. Fitch Ratings,
  2. Moody’s Investors Service,
  3. Standard and Poor’s (S&P),
  4. Dominion Bond Rating Service (DBRS),
  5. Japanese Credit Rating Agency (JCRA), and
  6. Rating and Investment Information Inc., Tokyo (R&D.

Except for Fitch and S&P, which have put India’s foreign currency in the negative’ category, most of these rating agencies have put India in the stable category in foreign and local currencies as of 15 January 2013. According to the Economic Survey 2012-13, the government is taking a number of steps to improve its interaction with the major SCRAs so that they can make informed decisions.

Credit Rating

Credit rating is a method of determining a prospective (potential) borrower’s creditworthiness (credit history, integrity, and ability to meet debt obligations). It is now done in cases involving individuals, businesses, and even countries. There are some well-known agencies, such as Moody’s and Standard & Poor’s. John Moody was the first to introduce the concept in the United States (1909). Normally, equity shares are not rated. Ratings are primarily an investor service.

When Credit Rating was introduced in India?

Credit rating was introduced in India in 1988 by the ICICI and UTI, jointly. The major credit rating agencies of India are:

  • CRISIL (Credit Rating Information of India Ltd.) was founded by ICICI and UTI with SBI, LIC, and United India Insurance Company Ltd. as shareholders to rate debt instruments such as debentures. The US credit rating agency S & P—a McGraw Hill Group of Companies—acquired 51% of the company in April 2005.
  • ICRA (Investment Information and Credit Rating Agency of India Ltd.) was set up in 1991 by IFCI, LIC, SBI, and select banks as well as financial institutions to rate debt
  • CARE (Credit Analyses and Research Ltd.) was set up in 1993 by IDBI, other financial institutions, nationalized banks, and private sector finance companies to rate all types of debt instruments.
  • ONICRA (Onida Individual Credit Rating Agency of India Ltd.) was set up by ONIDA finance (a private sector finance company) in 1995 to rate the creditworthiness of non-corporate consumers and their debt instruments, i.e., credit cards, hire-purchase, housing finance, rental agreements, and bank finance.
  • In September 2005, SMERA (Small and Medium Enterprises Rating Agency) was established to assess the overall strength of small and medium enterprises (SMEs)—the former SSIs. Although it is not a credit rating agency, its ratings are also used for this purpose. SIDBI (the largest shareholder with 22%), SBI, ICICI Bank, Dun & Bradstreet (an international credit information company), five public sector banks (PNB, BOB, BOI, Canara Bank, UBI with a combined 28 percent stake), and CIBIL have formed a joint venture (Credit Information Bureau of India Ltd.).

Companies can also use a general credit rating service that is unrelated to any debt issue, which rating agencies already provide in India under the name Credit Assessment. International rating agencies such as Moody’s and Standard & Poor’s carry out sovereign ratings, or ratings of countries, which are crucial in the countries’ external borrowings. 

Credit appraisal, which is based on useful information for consumer credit firms, also covers individuals. The Credit Information Bureau of India Limited (CIBIL) was established in May 2004 to maintain a database on individual credit records and to make credit information about prospective individual borrowers available to banks and financial institutions.

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