SGPC’s
Guru Nanak Institute of Management Studies
(Management Institute of G N Khalsa College), Matunga east, Mumbai – 400 019
Functional Project Report
Titled
“Effects of Monetary Policy on Equity Market”
In the partial fulfillment of the Degree of
MMS
By
Ms. Nandini Balasaheb Sonawane
Class-MMS, Division-A & Roll No-55
Semester IV & Specialization: Finance
Batch: 2023-25
Under the Guidance of
Prof. Sonali Athawale
Project Guide
SGPC’s
Guru Nanak Institute of Management Studies
(Management Institute of G N Khalsa College), Matunga east, Mumbai – 400 019
CERTIFICATE
This is to certify that Ms. Nandini Balasaheb Sonawane a student of Class:
MMS Semester: IV bearing Roll No. 55 has successfully completed the project
titled, “A study of Startup Ecosystem in India” in the partial fulfillment of the
Degree of MMS.
Place: Matunga, Mumbai
Date:
Name of the Project Guide: Prof. Sonali Athawale
Signature of the Project Guide:
Signature Institutes Seal:
Dr. Satwinder Singh Bedi
Director
STUDENT DECLARATION
I hereby declare that the project titled “Effects of Monetary Policy on Equity Market”
is my own work conducted under the supervision of Prof. Sonali Athawale
I further declare that no part in this project work has been plagiarized without
proper citations and has not formed the basis for the award of any degree,
diploma, associate ship, fellowship previously.
Name of Student: Nandini Balasaheb Sonawane
Signature of the Student:
ACKNOWLEDGEMENT
I avail this opportunity to express my sincere, humble and deepest sense of
gratitude towards my Guide Prof. Sonali Athawale for her valuable guidance
and tremendous efforts which she has taken to guide me to the path of success.
Her constructive feedback and endless encouragement always inspired to work
hard on the topic. Her determination and ambition to achieve goal in life is
really fascinating and inspired me. I wish to thank my friends for their
suggestion and co-operation in completion of this project. No one can
successfully complete work without blessings and wishes, so we thank and
dedicate it to our loving parents for their love and inspiration. Above all by
grace of God we would achieve it successfully.
Name of student
Nandini Balasaheb Sonawane
TABLE OF CONTENT
Sr.
TOPIC Page No.
No.
1 EXECUTIVE SUMMARY 1
2 INTRODUCTION
3 PROJECT DETAIL
5 RESEARCH METHODOLOGY
6 DATA ANALYSIS AND INTERPRETATION
7 FINDINGS AND SUGGESTIONS
RECOMMENDATION
8
9 CONCLUSION
10 REFERENCES
11 PROJEC PROGRESS REPORT
12 PROJECT SYNOPSIS
EXECUTIVE SUMMARY
EXECUTIVE SUMMARY
INTRODUCTION
INTRODUCTION
Monetary policy as a macroeconomic tool is widely used by central banks, RBI or other
regulatory committees to control quantity and rate of money supply in an economy,
essentially affecting interest rates. A country’s macro economy environment is affected by its
monetary policy. Financial system is the mechanism where a nation's financial authority,
usually a reserve bank, monitors the flow of money to the nation by imposing its power over
policy rate in order to retain stable growth and gain better wealth creation. Monetary policy is
now regarded as one of the most important tools of economic management. So, monetary
policy is the tool in the hand of Central Bank of country in order to achieve two objectives,
I.e. facilitation of G.D.P. growth and other is, controlling and regulation of inflation rate. If
any central bank able to regulate or control inflation rate, then automatically you will able to
rate growth as well. So, both are co-related to each other. Inflation rate is controlled by
increasing or decreasing money supply in the economy.
Monetary policy is of two types:
A. Expansionary monetary policy (E.M.P.)- When there is increases in the supply of
money by making credit supply easily available. Money produced through such a
policy is called cheap money. When an economy goes through a phase of recession
accompanied by lower levels of growth / high levels of unemployment. But risk
associated with E.M.P. cost inflation.
B. Contractionary monetary policy (C.M.P.)- When there is decrease in the supply of
money; use to tackle the inflation by raising the interest rates.
Tools To Regulate Monetary Policy:
There are two tools to regulate monetary policy, qualitative and quantitative. With these tools
money supply is regulated in the market.
A. Policy Rates- The policy rate includes repo rate, the value wherein the RBI lends
banks cash for a short-term period. Then, next is ,
B. Reverse repo rate, borrowing rate for shorter period at which RBI borrows money
from banks. The Reverse Repo rate indicates the rate wherein the reserve bank
penetrates the bank liquidity. Then bank rate, the interest rate paid by the RBI for
supplying the banking system with funds or loans. Marginal Standing facility, is a
special window for banks to borrow from RBI against approved government
securities in an emergency like an acute cash shortage.
C. Reserve Ratios- The reserve ratio includes, Cash Reserve Ratio, isminimum ratio
stipulated by the RBI. This tool is used by RBI to control liquidity in the banking
[Link], the minimum share of their net demand and time liabilities as liquid
assets in the form of cash, gold and accepted securities is the statutory liquidity ratio..
Lastly, Open market Operations, in which central bank, in order to extend or contract
the sum of capital in the financial system,
C. buys and sells government securities on the open market. Country ’s financial system
has been one of managed transformation since the first plan era, i.e., a strategy of
effective growth financing maintaining fair sustainable growth. Thus, RBI allows the
industry grow through money expansion and tried to contain price inflation through
monetary and other control measures. This becomes necessary to note that no single
arm of economic policy can successfully pursue all the goals. Therefore, there is
always the issue of granting the most suitable aim or goal to each mechanism. It is
evident from both the empirical evidence and the research findings that monetary
policy is ideally suited to achieving the goal of price stability in the economy between
different policy objectives.
Monetary policy is of two types:
Monetary policy tools are instruments used by a country's central bank to regulate the money
supply, interest rates, and credit availability to promote economic growth, stability, and low
inflation. These tools can be categorized into two main types: Quantitative Tools and
Qualitative Tools.
Quantitative Tools
These tools aim to control the cost and quantity of credit.
- Bank Rate or Discount Rate: The rate at which the central bank buys or rediscounts bills of
exchange or other commercial papers from commercial banks. An increase in the bank rate
reduces the money supply, while a decrease increases it.¹
- Reserve Requirements: The minimum reserves each bank must hold as a percentage of its
deposits. This includes:
- Cash Reserve Ratio (CRR): The minimum percentage of deposits that banks must hold in
cash.
- Statutory Liquidity Ratio (SLR): The percentage of deposits that banks must hold in cash,
gold, or government securities.
- Liquidity Adjustment Facility (LAF): Allows banks to borrow money from the central bank
through repurchase agreements or to make loans to the central bank through reverse repo
agreements.
- Marginal Standing Facility (MSF): Provides emergency loans to banks at a penal rate.
- Open Market Operations (OMOs): The buying and selling of government securities by the
central bank to regulate the money supply.
- Market Stabilization Scheme (MSS): Intervention by the central bank to withdraw excess
liquidity by selling government securities.
- Term Repos: Allows banks to borrow money from the central bank for a specific term.
Qualitative Tools
These tools aim to control the use and direction of credit.
- Margins Requirements: The difference between the value of securities offered for loans and
the value of loans actually granted.
- Consumer Credit Regulation: Regulates the credit made available by commercial banks for
consumer durables.
- Moral Suasion: Persuades banks to adhere to policy directives through persuasion or
pressure.
- Direct Action: Takes direct action, such as refusing to rediscount bills or charging penal
interest rates, when banks do not cooperate.
- Rationing of Credit or Credit Ceiling: Fixes a ceiling on the amount of loans that can be
granted by commercial banks.
- Priority Sector Lending: Prescribes banks to provide a specified portion of their lending to
specific sectors, such as agriculture and small enterprises.
Need for Monitary Policy
The need for monetary policy arises from the necessity to achieve specific macroeconomic
objectives, which can be broadly categorized into the following:
1. Price Stability
Monetary policy helps to control inflation, which is a sustained increase in the general price
level of goods and services in an economy. High inflation can erode the purchasing power of
consumers, reduce savings, and discourage investment.
2. Economic Growth
Monetary policy can stimulate economic growth by increasing the money supply, reducing
interest rates, and making credit more easily available. This can lead to increased investment,
consumption, and employment.
3. Full Employment
Monetary policy can help achieve full employment, which is a situation where all those who
are willing and able to work are employed. By stimulating economic growth and reducing
unemployment, monetary policy can help achieve full employment.
4. Financial Stability
Monetary policy helps to maintain financial stability by regulating the financial system,
preventing financial crises, and maintaining confidence in the financial system.
5. Exchange Rate Stability
Monetary policy can influence exchange rates, which can impact trade and investment. By
maintaining exchange rate stability, monetary policy can promote trade and investment.
6. Economic Stability
Monetary policy helps to maintain economic stability by responding to shocks, such as
changes in global economic conditions, natural disasters, or financial crises.
7. Reducing Poverty and Income Inequality
Monetary policy can help reduce poverty and income inequality by promoting economic
growth, increasing employment opportunities, and improving access to credit.
8. Maintaining Low and Stable Interest Rates
Monetary policy helps to maintain low and stable interest rates, which can promote
investment, consumption, and economic growth.
9. Regulating the Money Supply
Monetary policy helps to regulate the money supply, which can impact inflation, economic
growth, and employment.
10. Maintaining Confidence in the Financial System
Monetary policy helps to maintain confidence in the financial system, which is essential for
promoting investment, consumption, and economic growth.
To achieve these objectives, central banks use various monetary policy tools, such as interest
rates, reserve requirements, and open market operations, to influence the money supply,
interest rates, and credit availability.
The need for monetary policy is further emphasized by the following:
1. Business cycles: Monetary policy helps to stabilize the economy during periods of
economic downturn or upswing.
2. Economic shocks: Monetary policy helps to respond to economic shocks, such as changes
in global economic conditions or natural disasters.
3. Financial crises: Monetary policy helps to prevent or mitigate financial crises, such as bank
failures or stock market crashes.
4. Globalization: Monetary policy helps to respond to the challenges and opportunities
presented by globalization.
Effects of Monitary Policy
The effects of monetary policy can be far-reaching and have a significant impact on the
economy. Expansionary Monetary Policy, which involves increasing the money supply and
reducing interest rates, can have the following effects:
- Increased Economic Growth: Lower interest rates make borrowing cheaper, which can lead
to increased investment and consumption, ultimately boosting economic growth.¹
- Job Creation: With lower interest rates, businesses are more likely to invest and hire,
leading to job creation.²
- Increased Aggregate Demand: Lower interest rates and increased money supply can lead to
increased aggregate demand, which can drive economic growth.
- Inflation: Excessive money supply and low interest rates can lead to inflation, as more
money chases a constant amount of goods and services.
On the other hand, Contractionary Monetary Policy, which involves reducing the money
supply and increasing interest rates, can have the following effects:
- Reduced Inflation: Higher interest rates and reduced money supply can help combat
inflation by reducing aggregate demand.
- Reduced Economic Growth: Higher interest rates make borrowing more expensive, which
can lead to reduced investment and consumption, ultimately slowing down economic growth.
- Increased Unemployment: Higher interest rates can lead to reduced business investment and
hiring, resulting in increased unemployment.
Additionally, monetary policy can also have an impact on:
- Exchange Rates: Changes in interest rates and money supply can affect exchange rates,
making exports more or less competitive.³
- Financial Stability: Monetary policy can influence financial stability by regulating the
financial system and preventing financial crises.
- Productivity: Monetary policy shocks can have a significant impact on total factor
productivity (TFP), with contractionary monetary policy shocks leading to declines in TFP.⁴
Overall, the effects of monetary policy depend on various factors, including the state of the
economy, the level of interest rates, and the money supply.
Financial Markets
Financial markets play a crucial role in facilitating the flow of money and securities in an
economy.:
What are Financial Markets?
Financial markets are platforms where buyers and sellers interact to trade financial assets,
such as stocks, bonds, commodities, and currencies. These markets provide a mechanism for
individuals, businesses, and governments to raise capital, invest, and manage risk.
Types of Financial Markets
There are several types of financial markets, including:
1. Money Market: A market for short-term debt securities, such as commercial paper, treasury
bills, and certificates of deposit (CDs).
2. Capital Market: A market for long-term debt and equity securities, such as stocks, bonds,
and mutual funds.
3. Foreign Exchange Market (Forex): A market for trading currencies.
4. Commodity Market: A market for trading physical commodities, such as gold, oil, and
agricultural products.
5. Derivatives Market: A market for trading financial instruments whose value is derived
from an underlying asset, such as options, futures, and swaps.
Components of Financial Markets
Financial markets consist of various components, including:
1. Instruments: Financial assets traded in the market, such as stocks, bonds, and commodities.
2. Investors: Individuals, businesses, and institutions that buy and sell financial assets.
3. Intermediaries: Institutions that facilitate trading, such as stock exchanges, brokerages, and
banks.
4. Regulators: Government agencies and organizations that oversee and regulate financial
markets.
Functions of Financial Markets
Financial markets perform several critical functions, including:
1. Mobilization of Savings: Financial markets provide a platform for individuals and
institutions to invest their savings.
2. Allocation of Resources: Financial markets facilitate the allocation of resources to their
most productive uses.
3. Risk Management: Financial markets provide instruments for managing risk, such as
hedging and diversification.
4. Price Discovery: Financial markets determine the prices of financial assets.
5. Liquidity Provision: Financial markets provide liquidity to investors, enabling them to buy
and sell financial assets quickly and efficiently.
Importance of Financial Markets
Financial markets play a vital role in the economy, as they:
1. Facilitate Economic Growth: Financial markets provide the necessary funding for
businesses to invest and grow.
2. Create Wealth: Financial markets provide opportunities for investors to create wealth.
3. Manage Risk: Financial markets provide instruments for managing risk.
4. Promote Financial Stability: Financial markets help maintain financial stability by
providing a platform for trading and risk management.
Relationship between Monetary Policy and Financial Markets
Monetary policy and financial markets are closely interconnected. Monetary policy decisions,
such as changes in interest rates or money supply, can have a significant impact on financial
markets, including:
1. Stock Market: Monetary policy decisions can affect stock prices by influencing the cost of
borrowing, the level of economic activity, and investor sentiment.
2. Bond Market: Changes in interest rates can affect bond yields, which can impact bond
prices and returns.
3. Foreign Exchange Market: Monetary policy decisions can influence exchange rates by
affecting interest rates, inflation, and economic growth.
4. Commodity Market: Monetary policy decisions can impact commodity prices by
influencing inflation, interest rates, and economic growth.
How Monetary Policy Impacts Financial Markets ?
Monetary policy decisions can impact financial markets through various channels, including:
1. Interest Rate Channel: Changes in interest rates can affect borrowing costs, consumption,
and investment, which can impact financial markets.
2. Money Supply Channel: Changes in money supply can affect the level of economic
activity, inflation, and financial markets.
3. Exchange Rate Channel: Changes in exchange rates can affect trade, investment, and
financial markets.
4. Expectations Channel: Changes in monetary policy can impact investor expectations,
which can affect financial markets.
Tools of Monetary Policy and their Impact on Financial Markets
The tools of monetary policy and their impact on financial markets are:
1. Open Market Operations (OMO): Buying or selling government securities to increase or
decrease the money supply, which can impact interest rates, bond yields, and stock prices.
2. Interest Rates: Changes in interest rates can affect borrowing costs, consumption, and
investment, which can impact financial markets.
3. Reserve Requirements: Changes in reserve requirements can affect the money supply,
which can impact interest rates, bond yields, and stock prices.
4. Forward Guidance: Communicating future policy intentions to influence investor
expectations, which can impact financial markets.
Impact of Monetary Policy on Financial Market Variables
The impact of monetary policy on financial market variables is:
1. Stock Prices: Monetary policy decisions can impact stock prices by influencing the cost of
borrowing, the level of economic activity, and investor sentiment.
2. Bond Yields: Changes in interest rates can affect bond yields, which can impact bond
prices and returns.
3. Exchange Rates: Monetary policy decisions can influence exchange rates by affecting
interest rates, inflation, and economic growth.
4. Commodity Prices: Monetary policy decisions can impact commodity prices by
influencing inflation, interest rates, and economic growth.
Challenges and Limitations of Monetary Policy
The challenges and limitations of monetary policy are:
1. Time Lag: Monetary policy decisions can take time to impact the economy and financial
markets.
2. Uncertainty: Monetary policy decisions are subject to uncertainty, which can impact their
effectiveness.
3. Global Interdependence: Monetary policy decisions can be impacted by global economic
trends and financial market conditions.
4. Financial Market Volatility: Monetary policy decisions can impact financial market
volatility, which can be challenging to manage.
.
LITERATURE REVIEW
LITERATURE REVIEW
D. Gupta and Srinivasan (1984) evaluated using a simple inter-sector model, the effect of
administered price adjustments on sector and overall price movements. The study results
clearly show that, without taking into account their reciprocal relations, the effect of
administered market adjustments on relative and absolute prices can not be measured. A
partial equilibrium model can not determine the success of administered price revisions as an
instrument for generating additional resource mobilization in the public sector, and the
inflation potential of administered price adjustments is significantly high and the potential for
generating additional savings is much lower than the nominal impact. Paulson (1989) studies
the effect of monetary policy on the Indian economy during the time leading up to the reform.
The study shows that reserve money is the only significant factor affecting the money supply
in the economy. He points out the positive connection between inflationary pressures and
controlled prices, and what is important, he suggests, is a cordial and symbiotic relationship
between monetary policy and fiscal policy in order to maintain price stability. Tara pore
(1993) elaborated inflation on the poorer parts of society as a levy. It is also argued that the
need for monetary relaxation is advantageous to the poorest segments of society. There could
be nothing farther from the facts. Inflation mitigation is the strongest anti-poverty initiative
for me, and so a robust anti-inflationary monetary policy is in line with public concerns. It
also forecasts that, for the near future, the inevitable changes in the stock market would entail
the development of entirely new skills in the Reserve Bank, the commercial banks and the
financial institutions. Arun Ghosh (1994) commented on the interest rate objection should not
mean that all interest rates should be brought down abruptly and precipitously. Two steps are,
rather, required. The first is a progressive decrease in the structure of the interest rate.
Secondly, and more significantly, the establishment of an institutional system that would
make available adequate and timely credit to small farmers , small industries, artisans, etc.
Sinha (1995) said that keeping the financial sector in good shape is very urgent. This calls for
the Regulatory Authorities-RBI, SEBI and the Central Government-to be very careful. It is
important to bring down the rate of monetary expansion dramatically. That is the real measure
of central banking policy performance. Otherwise, inflation on the part of the government
and the RBI would become higher, contrary to the complacency observed in this regard..
Rangarajan (1996) commended on study conducted by the ASCI during a lecture on Certain
Monetary Policy Problems. In fact, many writers conclude that inflation is endemic in the
course of economic growth and inflation is viewed more as a monetary phenomenon than as a
systemic imbalance, he noted. Due to the need to provide specific guidance to monetary
policy makers, the objective question has become relevant.. Partha Ray et al. (1998) explored
new aspects of the monetary transmission mechanism were launched in the liberalization
climate of the early 1990s and in the context of growing financial market integration. What
inspired the author was an exploration of the Chakrabarty committee model in this modified
milieu. The article aims to analyse the role of two main variables, namely interest rates and
exchange rates, in the conduct of monetary policy. Manohar Rao (1999) used a flow-of-funds
approach, the real and monetary dimensions of short-run structural adjustment. On the basis
of such a structure, it then sets out an empirical basis that can combine the Fund 's financial
programming model with the Bank's approach to financial requirements in a way that
eliminates the current dichotomies between the real and financial sectors of the economy. The
combined model, which determines the balance of the monetary, external, real and financial
sectors, is then used to recommend the Indian economy's feasible stabilization policy options
over the current fiscal year. Manohar Rao (2000), judged two primary issues. First, the two-
way interactions between business cycles and exchange rates are attempted to be assessed:
first by analyzing some of the key factors affecting exchange rates, and then by taking into
account the role of exchange rates in stabilizing business cycles. Secondly , the paper offers
an analytical structure that helps to forecast the exchange rate in the Indian context, among
other things, by formalizing the essence of the relationships between main macroeconomic
variables.. George Macesich (2002) explained the role of money within a national economy
and the output of monetary regimes. Power and authority are shared between the ministry of
finance and the central bank in monetary matters. Interesting historical accounts of the rules
versus discretionary debate are also given by the author. Reddy (2002) remarked that the
automatic access of the RBI refinancing facility to banks must also be reassessed in order to
achieve greater efficiency in the money market operations of the Reserve Bank through the
Liquidity Adjustment Facility. Therefore, as the CRR is reduced and the repo market
expands, refinancing facilities may be reduced or fully withdrawn and access to the non-
collateral call money market may be limited in order to impart greater effectiveness to
monetary policy behaviour. Bank for International Settlements (2003) reviewed monetary
policy should respond to fluctuations in asset prices and/or financial imbalances beyond their
effect on the outlook for inflation. It concludes that, while monetary policymakers are likely
to be aware of such trends, the macroeconomic consequences can be adequately addressed
within an adequately flexible and forward-looking definition of inflation targets.. Robert
Nobay and David Peel (2003) considered optimal monetary policy in the sense of the
adoption of an asymmetric objective function by a central bank. The findings show that many
of the results on the time consistency issue need no longer hold under asymmetric
preferences. In this paper, they explored the consequences of whether the central bank has an
asymmetric loss function for an optimal discretionary strategy. Kannan et al. (2006)
attempted to build a Monetary Condition Index (MCI) for India to take into account both
interest rate and exchange rate networks simultaneously, when assessing the monetary policy
stance and changing monetary conditions. Their findings show interest rates to be more
important in shaping monetary conditions in India than exchange rates. Deepak Mohanty
(2010) discussed global financial crisis and the response of monetary policy in India. At
present, the focus around the world and in India has changed from crisis management to
recovery management. RBI steps can now help anchor inflationary expectations, he believes,
by reducing the liquidity overhang without jeopardizing the growth process, as market
liquidity remains comfortable.
PROJECT DETAILS
PROJECT DETAILS
DATA ANALYSIS AND INTERPRETATION
DATA ANALYSIS AND INTERPRETATION
