The Reserve Bank of India Act, 1934 is the legislative framework that led to the creation of the Reserve Bank of India (RBI), India’s central bank. This act, along with the Companies Act (amended in 1936), establishes the legal provisions for the supervision and regulation of banks in India. The RBI Act plays a critical role in defining the functioning, authority, and responsibility of the central bank.
Key Provisions of the RBI Act, 1934
1. Scheduled Banks (Section 2)
The Act defines scheduled banks, which are banks listed in the 2nd Schedule of the RBI Act. To qualify as a scheduled bank, a bank must have a paid-up capital and reserves of at least ₹5 lakh. Scheduled banks are subject to the supervision of the RBI and enjoy certain privileges, including access to the central bank’s facilities.
2. Controversy Around Section 7
Section 7 of the RBI Act grants the central government the power to issue directives to the RBI in public interest. The government can legislate the functioning of the RBI through its board, meaning the RBI is not fully autonomous. Section 7 has been a source of debate, as it potentially limits the RBI’s independence. Although it has been invoked only once, it remains a point of tension between the government and the central bank.
3. Business Functions of RBI (Section 17)
This section outlines the functions of the RBI as India’s central bank. Key functions include:
- Accepting deposits from the central and state governments without paying interest.
- Purchasing and discounting bills of exchange from commercial banks.
- Buying and selling foreign exchange from banks.
- Offering loans to banks and state financial corporations.
- Advancing funds to the central and state governments.
- Buying and selling government securities.
- Dealing in derivatives, repo, and reverse repo transactions.
4. Emergency Loans (Section 18)
This section empowers the RBI to provide emergency loans to banks when required.
5. RBI as Banker to the Government (Section 21)
The RBI is mandated to manage the banking affairs of the central government and oversee the management of public debt.
6. Exclusive Currency Issuance (Section 22)
Under Section 22, the RBI has the exclusive right to issue currency notes in India, making it the sole issuer of legal tender.
7. Denomination of Bank Notes (Section 24)
This section caps the maximum denomination of currency notes that the RBI can issue at ₹10,000 (around US$120).
8. Legal Tender (Section 26)
This section establishes the legal tender status of Indian banknotes, ensuring their acceptance as currency for transactions within India.
9. Exchange of Damaged Notes (Section 28)
The RBI is empowered to formulate rules for the exchange of damaged or imperfect notes, ensuring their continued circulation.
10. Issuance of Promissory Notes (Section 31)
Only the RBI or the central government can issue promissory notes payable on demand in India, while cheques payable on demand can be issued by any entity or individual.
11. Cash Reserve Ratio (Section 42(1))
This section mandates that every scheduled bank must maintain an average daily balance with the RBI. The deposit must be a certain percentage of its net demand and time liabilities (NDTL), ensuring liquidity and stability in the banking system.