LLM Group 2 Business Law Banking Laws 2024-25 Question Paper with Solutions

For full marks, cover: the question has three verbs and each must be answered separately, so structure the answer as framework, tools, then effectiveness; on framework, note that until 2016 the Reserve Bank of India Act, 1934, contained almost no monetary policy provision at all and that Chapter III F is the whole of it; on tools, distinguish the price instruments from the quantitative ones and say which is actually used; on effectiveness, take a position and defend it with the statutory failure mechanism in section 45ZN and with what the record shows, and close on the two structural reforms without which none of the tools would work.

Section 45ZA is the objective provision. It requires the Central Government, in consultation with the Bank, to determine the inflation target in terms of the Consumer Price Index once every five years and to notify it. The target is four per cent with a tolerance band of two per cent on either side. The allocation of functions is the point to notice: the Government sets the target and the Bank pursues it, which is the model usually called instrument independence without goal independence.

Section 45ZB constitutes the Monetary Policy Committee. It has six members: the Governor as ex officio chairperson, the Deputy Governor in charge of monetary policy, an officer of the Bank nominated by the Central Board, and three members appointed by the Central Government. Decisions are by majority and the Governor has a casting vote in the event of a tie, so the Bank's three votes plus the casting vote make it very difficult to outvote the Bank while leaving the external members a real deliberative role.

The bank rate under section 49 is defined as the standard rate at which the Bank buys or rediscounts eligible bills or commercial paper, and it is no longer an instrument at all. Since the realignment of February 2012 it has been kept equal to the marginal standing facility rate, so it moves automatically and signals nothing. It survives because a large number of statutes and contracts fix rates by reference to it, including the penalty on a shortfall in the cash reserve ratio. Instrument to benchmark is the transition to describe, and saying so is what separates a current answer from a textbook one.

The quantitative instruments are the reserve requirements and open market operations. The cash reserve ratio under section 42 requires every scheduled bank to keep a percentage of its net demand and time liabilities with the Bank. Until 22 June 2006 the section confined the ratio between three and twenty per cent; the Reserve Bank of India (Amendment) Act, 2006, removed both floor and ceiling and omitted section 42(1B), so no interest is paid on those balances, which is what makes the ratio a genuine instrument rather than a deposit. The statutory liquidity ratio sits not in this Act but in section 24 of the Banking Regulation Act, 1949, subject to a ceiling of forty per cent. Open market operations in Government securities are the day to day instrument of liquidity management.

On anchoring, the case for the framework is strong. Before 2016 the Bank pursued a multiple indicator approach with no published objective, so there was nothing against which to judge it. A numerical target, published votes, a six monthly report and a statutory duty to explain failure under section 45ZN together make policy legible. The target has been formally missed, inflation having exceeded the upper tolerance band for three consecutive quarters in 2022, and the Bank did what section 45ZN requires and reported to the Central Government. That the mechanism operated is itself evidence that it is real rather than decorative.

On transmission the case is weaker and the reasons are legal as much as economic. A change in the repo rate reaches a borrower only through the banks' own lending rates, and for years that pass through was slow and incomplete because rates were priced off internal benchmarks the banks themselves computed. The Bank's answer was regulatory rather than statutory: it required new floating rate retail and small business loans to be linked to an external benchmark. That is a good illustration of a general feature of this subject, that the operative rule is often a direction under section 35A of the Banking Regulation Act rather than a provision of either Act.

What the courts have said about the limits

The Bank's powers are wide, and Reserve Bank of India v. Peerless General Finance and Investment Co. Ltd., (1987) 1 SCC 424, shows how wide. Peerless, a residuary non banking company, ran a savings scheme under which a subscriber who stopped paying forfeited a large part of what he had already paid; the Bank issued directions under Chapter III B regulating such schemes and the company said they were beyond power. The Supreme Court upheld them, holding the power wide and directed to the protection of depositors, and Chinnappa Reddy J. added the passage on interpretation for which the case is best known, that a statute must be read as a whole and that its text is best understood when the reason for it is known.

Conclusion. The statutory framework this question asks about is eight years older than the Act that contains it. Until the Finance Act, 2016, the Reserve Bank of India Act, 1934, gave the Bank instruments and no objective; Chapter III F gave it an objective it does not set, a committee in which it holds three of six votes and the casting vote, a duty to publish every member's reasons, and a duty under section 45ZN to explain a failure of three consecutive quarters to the Government.

The tools divide cleanly, and the division is the most useful thing to say about them. Price is set by the repo rate with the standing deposit facility of April 2022 as its floor; quantity by the cash reserve ratio under section 42, freed of its statutory band in 2006 and paying no interest; and direction by section 21 of the Banking Regulation Act, which is a different statute altogether. The bank rate in section 49, which the older papers in this folder still treat as the instrument, has been a benchmark and not a lever since 2012.