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Open Market Operations:
Open market operations consist of buying and selling of government securities by the Reserve Bank. Open market operations have a direct effect on the availability and cost of credit. When the central bank purchases securities from the banks, it increases their cash reserve position and hence, their credit creation capacity. On the other hand, when the central bank sells securities to the banks, it reduces their cash reserves and the credit creation capacity. The Reserve Bank of India did not rely much on open market operations to control credit. It was not used for inﬂuencing the availability of credit. Due to under-developed security market, the open market operations of the Reserve Bank are restricted to Government securities. These operations have also been used as a tool of public debt management. They assist the Indian government to raise borrowings.
The open market operations of the Reserve Bank has not been so effective because of the following reasons:
(a) Open market operations are restricted to government securities.
(b) Gift-edged market is narrow.
(c) Most of the open market operations are in the nature of “switch operations” (i.e., purchasing one loan against the other).
Objectives of Open Market Operations The main objectives of open market operations are:
(a) To eliminate the effects of exports and imports to gold under the gold standard.
(b) To impose a check on the export of capital.
(c) To remove the shortage of money in the money market.
(d) To make bank rate more effective.
(e) To prevent a ‘run on the bank’.
Repurchase Agreements (Repo):
Repurchase Agreements which are also called as Repo or Reverse Repo are short term loans that buyers and sellers agree upon for selling and repurchasing. Repo or Reverse Repo transactions can be done only between the parties approved by RBI and allowed only between RBI-approved securities such as state and central government securities, T-Bills, PSU bonds and corporate bonds. They are usually used for overnight borrowing.
Repurchase agreements are sold by sellers with a promise of purchasing them back at a given price and on a given date in future.
Money Market Instruments:
Treasury Bills (T-Bills):
Treasury Bills are one of the safest money market instruments as they are issued by Central Government. They are zero-risk instruments, and hence returns are not that attractive. T-Bills are circulated by both primary as well as the secondary markets. They come with the maturities of 3-month, 6-month and 1-year.
The Central Government issues T-Bills at a price less than their face value and the difference between the buy price and the maturity value is the interest earned by the buyer of the instrument. The buy value of the T-Bill is determined by the bidding process through auctions.
At present, the Government of India issues three types of treasury bills through auctions, namely, 91-day, 182-day and 364-day.
Certificate of Deposits (CDs):
Certificate of Deposit is like a promissory note issued by a bank in form of a certificate entitling the bearer to receive interest. It is similar to bank term deposit account. The certificate bears the maturity date, fixed rate of interest and the value. These certificates are available in the tenure of 3 months to 5 years. The returns on certificate of deposits are higher than T-Bills because they carry higher level of risk.
Commercial Papers (CPs):
Commercial Paper is the short term unsecured promissory note issued by corporates and financial institutions at a discounted value on face value. They come with fixed maturity period ranging from 1 day to 270 days. These are issued for the purpose of financing of accounts receivables, inventories and meeting short term liabilities.
The return on commercial papers is is higher as compared to T-Bills so as the risk as they are less secure in comparison to these bills. It is easy to find buyers for the firms with high credit ratings. These securities are actively traded in secondary market.