Minimum Reserve System


In India, currencies are issued by the RBI with the backing of reserves comprised of gold and foreign exchange (foreign currencies). For the issue of currency the RBI follows Minimum Reserve System at present. The Minimum Reserve System (MRS) is followed from 1956 onwards.
Under the Minimum Reserve System, the RBI has to keep a minimum reserve of Rs 200 crore comprising of gold coin and gold bullion and foreign currencies. Out of the total Rs 200 crores, Rs115 crore should be in the form of gold coins or gold bullion. The purpose of shifting to MRS was to expand money supply to meet the needs of increasing transactions in the economy.
The minimum reserve is a token of confidence and doesn’t have any practical connection with amount new currencies issued by the RBI. Under the Minimum Reserve System, RBI can issue unlimited amount of currency by keeping the reserve. But RBI follows some principle or rule for issuing new currencies based upon economic growth and transaction needs of the people.
Total value of RBI notes circulated in India has increased from Rs. 1,910 crore in 1960-61 to Rs. 59,860 crore at the end of June 1991. Again total variations of money stock or broad money (M3) stood at Rs. 1,54,311 crore in 1998-99.
The present currency note is an inconvertible paper note and the same cannot be issued by the RBI in unlimited amount. There is a limit to the power of Issue Department of RBI to issue paper currency. The entire issue of currency note is subjected to the regulations framed in the RBI Act of 1935. Since 1856, various amendments had already been made to the RBI Act. Under the present provisions of RBI Act, the issue of additional doses of currency notes can be made by the RBI without keeping any additional reserves of gold or foreign exchange.

How RBI issues new currencies?
For every year, RBI makes a money supply expansion target based on the expected economic growth. Higher the economic growth, higher will be the expansion of newly issued money by the RBI. This strategy helps RBI to contain inflation as well as enabling people to meet their transaction needs.
Similarly, the RBI secures assets while issuing new currency into the economy. These assets are foreign currencies or government bonds. Every unit of new currency is a liability of the RBI. To match this liability, there should be equal volume of assets as well. The procured foreign currency and government bonds constitute to the assets of the RBI whereas the newly issued currency is its liability. Foreign currencies purchased by the RBI are kept at Banking Department whereas the resaves used for issuing new currency (under MRS) is kept at Issue Department.
The liabilities of the Issue Department reflect the quantum of currency notes in circulation. Section 34(1) of the Reserve Bank of India Act requires that all bank notes issued by the Reserve Bank since April 1, 1935 and the currency notes issued by the Government of India before the commencement of operations of the Reserve Bank, be part of the liabilities of the Issue Department. 
The eligible assets of the Issue Department for backing its currency liabilities consist of gold (coins and bullion), foreign securities, rupee coin, Government of India securities (which remained unchanged at Rs10.46 billion), internal bills of exchange and other commercial papers. The Reserve Bank holds 557.75 metric tonnes of gold of which 292.26 metric tonnes are held as an asset of the Issue Department and the balance 265.49 metric tonnes is treated as part of the other assets of the Banking Department.

The present minimum reserve system of regulating note issue has been criticized from various quarters. It has been argued that greater degree of elasticity has resulted in undue expansion of money supply which would reduce the confidence and prestige of Indian rupee both within and outside the country.
Secondly, greater degree of elasticity in note issue has provided unlimited power to the government to issue currency notes, leading to undue expansion of money.
Thirdly, unplanned increase in money supply has resulted in severe and continuous inflation in the country.
Although the present system of note issue has been criticized on aforesaid grounds, but the elasticity of the present system cannot be abandoned. So what is required at this moment is the restraint on the part of the government to issue currency notes in a most restrictive manner.

Friday, 08th Apr 2016, 01:22:24 PM

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Awadhesh kumar
Really best articles
Oct 14, 2017 06:52 PM
Sushil biswas
best ans. but I have A question, what is the important question of banking for hs final year?
Jan 21, 2018 04:29 PM