What is the mechanism to print currency in the country? How much currency can a country print at a time?

First of all, lets start with the assumption that Govt. knows how much money to print. Let this quantity be X. Now, what happens if Govt. prints more than X, or less than X? To get the idea of this, please consider my following answer

Basically, if you print more than X, Inflation occurs and prices start to rise; if you print less, Deflation occurs and prices start to fall. The negative effects of both have been brought out in my answer above. What we need is to print neither more, nor less, but just the right amount so that excessive inflation or deflation does not happen.

Now, your question is that how this amount is determined by the RBI? The answer is the Economic Growth of country, or simply GDP. (Actually, GDP is also not the exact measure of growth, but lets not get in to that and keep things simple here. For all learning purposes, we will assume GDP to be exact measure of growth for any country)

GDP is basically a number which is sum of all the products & services produced in the country during a financial year in Rupee terms. Simply put, numerical measure of goods & services produced in a year. Quite obviously, more goods and services produced in a country, more would be the GDP, right? Not necessarily.

Why, you ask? Lets say 5 products are produced in a country, each costing 20 bucks. So GDP = 5x20 = 100. Lets assume this is also the amount of money RBI has circulated in the country. Now, assume RBI doesn't print any more money the next financial year, and the number of products being produced rises to 10. Now GDP = 10x20 = 200? Wrong!

Since money circulation hasn't increased, Deflation occurs and prices go down. This would be in inverse proportion to increase in production and hence price would be now 10 bucks only. Hence GDP = 10x10 = 100 only. Note that there is no increase in GDP despite the fact that production of a country is DOUBLED!!!

Now, you already know what happens when Deflation occurs and we do not want it to happen. And you also know how to tackle it: print more money. And somewhere in your mind, you already know how much to print so that Deflation is tackled without causing any Inflation: you measure the growth in your Economy/Production, and increase the money supply accordingly. So, RBI prints 100 Rupees more; price rise back to 20 bucks a product, and GDP = 10x20 = 200. (This is also the example of why GDP is not the exact measure of growth in any country: it could deceive you. But, if we keep the prices of all goods and services constant, that the only way GDP can rise is by ACTUAL increase in production/services, and hence the economy)

This is what RBI does as well. Only difference is that the RBI estimates this demand on the basis of the growth rate of the economy, the replacement demand and reserve requirements by using statistical models, due to the complexity of any economy.

In addition to this estimated demand due to growth in economy, the amount of money that needs to be printed also includes replacement of damaged notes, reserve requirements, circulation purposes, etc.

I hope your question is answered.  :)