Monetary policy is the policy used to control inflation.
Its three instruments are
1. Open market operation: The RBI sells and buys government securities in the open market. This is known as open market operation. At the time of high inflation, RBI sells government securities to the public. The money from the economy ow to the RBI. Since the money in the economy falls the demand for goods and services too will fall and the price will come down. So the inflation is controlled.
2. Changes in the bank rate: When inflation is high RBI will raise the bank rate. At higher bank rate people will demand less loans, they will save more. This will lead to a reduction in the demand, the price level too will fall. An increased bank rate also will lead to a fall in the money supply.
3. Varying the reserve requirement: At the time of high inflation, the RBI can make necessary changes in the various reserve requirements like CRR, CDR, SLR etc. At the time of inflation RBI raises the CRR, that means more money has to be kept in the RBI. This will reduce the money supply in the economy. So the demand will come down and the general price level too.
