- In November 2016, ₹500 and ₹1000 notes were demonetised.
- Aim: curb black money, corruption, fake currency, terrorism.
- Caused short-term cash crunch and disruption.
- Led to better tax compliance and more money in banks.
- Encouraged digital and formal transactions.
Definitions [9]
Define the following concept.
Open Market Operation
Open market operations refer to the sale and purchase of government and other approved securities by central bank in the money and capital markets.
Open Market Operations (OMOs) are employed by Central Banks, such as the RBI, to control the money supply. Buying and selling government bonds on the open market changes liquidity, interest rates, and the economy. Central Bank purchases of securities increase market liquidity and lower interest rates. Selling assets reduces market liquidity and raises interest rates.
Definitions: Central Bank
- "A bank which constitutes the apex of the monetary and banking structure of the country." — De Kock
- "A central bank is "The bank in any country is one which has been entrusted the duty of regulating the volume of currency and credit in that country." — Bank for International Settlements
Define the following term:
Cash Reserve Ratio.
Cash Reserve Ratio (CRR) is a certain minimum percentage of deposits that commercial bank and has to keep as reserves with the central bank.
Define moral persuasion.
Moral persuasion is a method of credit control employed by the Central Bank. It is a method of request and advice to the commercial banks by the Central Bank.
Define the term Statutory Liquidity Ratio.
Statutory Liquidity Ratio (SLR) is the minimum percentage of deposits that a commercial bank has to maintain in the form of specified liquid assets with themselves.
Define bank rate.
Bank rate is the rate at which the central bank provides credit to commercial banks.
The ‘bank rate’ or ‘discount rate’ refers to the interest rate at which the central bank provides loans and advances to commercial banks or rediscounts their approved bills of exchange and government securities. By adjusting this rate, the central bank regulates the amount of credit available in the economy.
What is meant by open market operations?
- Open market operations refer to the buying and selling of government securities. These securities can be bought or sold to the public or to the commercial banks in an open market.
- Open market operations are used by the central bank to affect the money supply in the economy.
- The sale of securities by the RBI drains the extra cash from the economy, thereby limiting the money supply, whereas the purchase of securities by the RBI pumps additional money into the economy, thereby stimulating the money supply.
Define qualitative credit control policy of the RBI.
The goal of the qualitative approach to credit control is to manage and oversee the distribution of credit among different credit users. They are made to control the flow of credit for particular purposes. Moral persuasion and credit rationing are two instances of qualitative credit control techniques.
Define the following term:
Margin Requirements.
A margin is the difference between the loan amount and the market value of the security offered by the borrower against the loan. The central Bank fixes it.
Key Points
Key Points: Central Bank
- The central bank is the highest authority in the banking system. It controls, regulates and supervises all banks and manages the country’s monetary system.
- It formulates and implements monetary policy to control inflation, deflation, and overall credit in the economy.
- It acts as a banker, adviser and agent to the government, and also works as a “banker’s bank” by guiding and supporting commercial banks.
- The central bank has the sole authority to issue currency (except small coins/notes in some cases), ensuring a uniform and reliable money supply.
- It supports economic growth by promoting banking, developing financial institutions, managing foreign exchange, and helping priority sectors.
Key Points: Quantitative Methods
Quantitative methods control the overall volume of credit in the economy without discrimination.
Bank Rate / Repo Rate:
- ↑ Rate → borrowing becomes costly → credit contracts (controls inflation)
- ↓ Rate → borrowing becomes cheaper → credit expands (controls deflation)
Open Market Operations:
- Sale of securities → reduces bank reserves → less credit
- Purchase of securities → increases bank reserves → more credit
CRR & SLR:
- ↑ CRR/SLR → banks lend less
- ↓ CRR/SLR → banks lend more
Key Points: Qualitative (Or Selective)
- Selective methods control who gets credit and for what, not how much credit exists in total
- Margin Requirement is the most important selective instrument
- Moral Suasion is the only informal, non-legal method — it relies on persuasion
- Direct Action is used only against erring (non-compliant) banks — it is punitive
- Publicity works on both banks, and the general public
- Credit Rationing fixes a ceiling on total loans or the ratio of loans to deposits
- Consumer Credit Regulation targets hire purchase finance for durable goods
Key Points: Demonetisation
Important Questions [15]
- Distinguish Between Statutory Liquidity Ratio and Cash Reserve Ratio.
- Briefly Discuss Any Two Quantitative Measures Adopted by the Reserve Bank of India to Control Credit.
- Explain briefly three methods adopted by Commercial Banks to advance credit to borrowers.
- What is Meant by Quantitative Credit Control?
- Give any two reasons for giving the monopoly right of note issue to the Central Bank.
- Explain 'Bankers' Bank, Function of Central Bank.
- Distinguish between the following. Commercial Bank and Central Bank.
- Explain the following function of the Central Bank: Fiscal agent of the government.
- Explain "Banker to the Government" function of the Central Bank.
- Write Short Note On: Open Market Operations (Omo)
- Give five points of difference between Commercial and Central Bank.
- Mention an Important Difference Between a Commercial Bank and the Central Bank.
- Define Bank Rate.
- Briefly Explain Two Qualitative Methods of Credit Control Adopted by this Institution.
- When State Bank of India is under financial crisis and borrows money from Central Bank at a certain rate against approved securities, it will be called as ______.
Concepts [11]
- Quantitative and Qualitative Credit Control Measures Adopted by RBI
- Central Bank Function - Banker's Bank
- Central Bank Function - Goverment Bank
- Meaning of Central Bank
- Differences Between a Central Bank and a Commercial Bank
- Central Bank
- Functions of a Central Bank
- Monetary Policy of the Central Bank
- Quantitative Methods
- Qualitative (Or Selective) Methods
- Demonetisation
