Project on Assessment of Key Issues Related to Monetary Policy
[Source: RBI Report on Currency & Finance 2003-04]

Module: 2 - Monetary Policy Framework In India

The Reserve Bank's Balance Sheet during the 1990s

The process of financial liberalisation during the 1990s was accompanied by several measures to further strengthen the Reserve Bank's balance sheet and financial position. The pursuance of the already conservative accounting norms was accompanied by greater disclosures in the interest of transparency. Over the past few years, the Reserve Bank has recognised the need to proactively build up its internal reserves, i.e., Contingency Reserve (CR) and Asset Development Reserve (ADR), in order to ensure a sound balance sheet and undertake monetary and exchange operations without any overriding concerns on the impact of such operations on the balance sheet. The Reserve Bank, as per the current policy, aims at an indicative target of CR at 12 per cent of total assets by June 2005. This would provide cushion with respect to losses which cannot be absorbed by current earnings arising out of central bank operations/ interventions in the money, Government securities and foreign exchange markets and depreciation of domestic/foreign securities held by the Reserve Bank.

The size and composition of the Reserve Bank's balance sheet underwent significant shifts during the 1990s and thereafter. The asset size increased fivefold to Rs.6,09,738 crore as at end-June 2004 from Rs.1,23,836 crore as at end-June 1991. On the asset side, the share of foreign currency assets and gold in the total assets increased to 89.1 per cent as at end-June 2004 from 8.9 per cent as at end-June 1991, reflecting mainly the consistently overall balance of payments surplus throughout the intervening period.

The structural changes in the composition of the Reserve Bank's assets were reflected in an increase in the share of income from foreign sources in total income. Besides, changes in the manner of conducting monetary operations have impacted the composition of income from domestic sources. Furthermore, financial market deregulation has enhanced the interest sensitivity of domestic income. The Reserve Bank's total income declined to 2.3 per cent of its assets as at end-June 2004 from 3.7 per cent during 1990-91, reflecting mainly the dominance of foreign currency assets, which carry relatively lower interest in comparison with domestic assets comprising largely Government securities (RBI, 2004b). Total expenditure declined to 1.3 per cent of assets as at end-June 2004 from 2.6 per cent as at end-June 1991, mainly as a result of decline in the interest outgo on the eligible CRR balances. The share of the surplus transferred to the Government in the total income has increased during the latter half of the 1990s but simultaneously with higher transfers to internal reserves.

The increasing market orientation of monetary management was accompanied by greater balance sheet transparency in line with international best practices. The Reserve Bank follows conservative valuation and income recognition norms. Its holdings of both domestic and foreign securities are valued each month end at the market price or book value, whichever is lower. Foreign currency assets are revalued every week to take into account the impact of exchange rate changes. The resultant revaluation gain/loss is parked in a separate balance sheet head called the Currency and Gold Revaluation Account. Gold is similarly revalued at the end of the month at 90 per cent of the daily average price quoted at London for the month. Over the years, significant disclosures in respect of the Reserve Bank's accounts have been enhanced markedly in line with international best practice. These relate to i) details of interest income and interest expenditure in the Profit and Loss Account (since 1990); ii) statement of significant accounting policies and notes to accounts (since 1992); and iii) details of other assets and liabilities and contingency reserves (since 1993). The Advisory Group on Transparency in Monetary and Financial Policies (Chairman: M. Narasimham) observed that data dissemination by the Reserve Bank, including the balance sheet, bear up well in comparison with central banks in developed countries.