An overview of the effects of monetary policy in India on GDP and inflation, from 1956 to the present day.

% annual growth rate:

  M3 Nominal GDP
1956 – 2020 14.52% 12.64%
1956 – 1960 8.37% 10.75%
1971 – 1980 17.63% 13.47%
1981 – 1990 17.07% 14.66%
1991 - 2000 17.39% 14.06%
2001 - 2010 17.25% 13.64%
2011 - 2020 11.33% 9.56%

Sources: M3 from Reserve Bank of India and OECD database and nominal GDP from IMF database, as at September 2023.

The medium-term relationship between money and nominal GDP growth in India, 1956-2022

Five-year moving averages of annual % changes, with 1958 being the start of the first five-year period

Comment on monetary trends in India

India has experienced rapid growth of money in recent decades. Because India is a developing country with a rapidly growing population, the demand for bank credit from the private sector is robust. Banks can charge wide profit margins and grow their balance sheets rapidly. Meanwhile the government has consistently run a budget deficit, which needs to be financed to some degree from the banking system. The average rate of money growth since 1980 has been almost 17% a year and it has been associated with an average rate of rise in nominal GDP of over 14%.

A somewhat surprising feature of the Indian experience is that the annual growth rate of both broad money and nominal GDP has consistently remained in the mid-teens . The inflation rate has often neared or exceeded 10%. The Reserve Bank of India has tried to dampen inflation pressures in the last few years, but rarely refers to monetary aggregates in its policy statements. Policy instruments are understood to include a 'cash reserve ratio' and a 'statutory liquidity ratio', as if the RBI were committed to influencing the size of bank balance sheet size by varying the required ratios of cash and liquidity to the total balance sheet. Typically money grows rather faster than nominal GDP, reflecting the extension of 'the banking habit'. This is the tendency for households to keep an increasing proportion of their assets in bank deposits (which pay interest), instead of in precious metals (which do not), as economic growth facilitates communications and enhances financial education.

India’s economy was going through a ‘soft patch’ when the first cases of coronavirus were reported in the country in the spring of 2020. The Reserve Bank of India had previously made several reductions to interest rates in an attempt to stimulate lending by the country’s commercial banks, but this had only served to increase inflation. The fiscal and monetary response to the pandemic was thus fairly modest, although businesses continued operate throughout the year as the government decided that a lockdown would be too costly.  The increase in money growth was thus fairly small.  The number of infections and deaths rose sharply in the spring of 2021 and more restrictions were imposed by the government.  Consumer inflation nonetheless remains above target and the fragility of the country’s commercial banks remains a worry for the authorities