The Committee to review the working of the monetary system headed by S. Chakravarty submitted its report to the RBI in April 1985. Its main recommendations were as follows:
1. The Committee had stressed the need to pursue price stability as the primary objective of the monetary policy. The Committee pointed out that the major factor that contributed to colossal increase in money supply had been the RBI’s credit to the government.
2. The Committee suggested a change in the definition of budgetary deficit. The budgetary deficit of the Central Government was measured in terms of an increase in treasury bills. In the opinion of the Committee, this overstated the extent of the monetary impact of fiscal operations because no distinction was made between the absorption of treasury bills and the increase in the holding of treasury bills by the RBI.
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3. The Committee was of the view that banks should have greater freedom in determining their lending rates. Further, the Committee strongly felt that concessional interest rates as a redistributive device should be used in a very selective manner.
4. The Committee did not favour continuance of cash credit as the predominant form of bank credit. In its opinion, certain measures should be undertaken to encourage loans and bill finance forms of bank credit. It also stressed the importance of credit delivery system in the area of priority sector lending.
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The major recommendations of the Chakravarty Committee were accepted and have been implemented. Government accepted the modified definition of budget deficit as suggested by the committee.
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It also accepted setting up of the overall monetary targets with feedback to enable changes in the target in the right of the emerging trends in output and prices. The government has also accepted the committee’s recommendation to develop treasury bills as a monetary instrument with flexible rates which would enable banks to better manage their short-term liquidity.
It has accepted the committee’s recommendation for an upward revision of yields on government securities coupled with a shortening of maturities to attract funds from the capital market.
The CRR (Cash Reserve Ratio) which is the only effective instrument of monetary control in India is being no longer depended upon to combat inflation. The government must recognise the fact that monetary policy is a prime instrument in controlling inflation.