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Transcript of Central banks
CENTRAL BANKSPratiksha
MEANING & DEFINITION OF CENTRAL BANK In every country there is one bank which
acts as the leader of the money market, supervising, controlling and regulating the activities of commercial banks and other financial institutions.
According to the statutes of Bank of International Settlements, “the bank of the country to which has been entrusted the duty of regulating the volume of currency and credit in that country”
OBJECTIVES OF CENTRAL BANK
Objectives of Central Bank
Maintain internal value of currency
Preserve the external value of currency
Promote financial
institutions
Promote economic
growthEnsure price
stability
FUNCTIONS OF CENTRAL BANK Monopoly of Note Issue Custodian of Foreign Exchange Reserve Banker to the Government
Public Debt functionsAdvisor to the Govt on economic reforms
Banker to the Banks Controller of Credit Promoter of Economic Development
BANKER TO THE COMMERCIAL BANKS
Custodian of cash reserves
Lender of last resort
Clearing agent
CREDIT CONTROL
It means the regulation of the creation and contraction of credit in the economy.
Objectives of Credit controlStability of Internal Price-levelChecking Booms and DepressionsPromotion of Economic DevelopmentStability of the Money MarketStability in Exchange Rates
METHODS OF CREDIT CONTROL Quantitative controls are designed to
regulate the volume of credit created by the banking system. These measures work through influencing the demand and supply of credit.
Qualititative measures, on the other hand, are designed to regulate the flow of credit in specific uses.
Quantitative Methods
Qualitative or Selective Methods
Bank Rate Policy Issue of directives
Variation in Reserve ratios
Restriction of purpose
Open market Operations
Margin requirements
Credit rationing
Rate of interest
Moral persuasion
QUANTITATIVE METHODS- BANK RATE
Bank rate refers to the official minimum lending rate of interest of the central bank.
It is the rate at which the central bank advances loans to the commercial banks by rediscounting the approved first class bills of exchange of the banks.
Hence, bank rate is also called as the discount rate.
QUANTITATIVE METHODS- BANK RATE Theory of Bank Rate- affects the supply of
credit.
Working of Bank Rate Inflationary scenarioDeflationary scenario
The Process of Bank Rate Influence
Limitations for Bank Rate
QUANTITATIVE METHODS- OPM
Open market operations refer to the purchase and sale of securities by the central bank.
In its broader sense, the term includes the purchase and sale of both government and private securities.
But, in its narrow connotation, open market operations embrace the purchase and sale of government securities only
QUANTITATIVE METHODS- OPM Theory of Open Market Operations
Objectives of Open Market OperationsTo eliminate the effects of exports and
imports to gold under the gold standard.To impose a check on the export of capital.To remove the shortage of money in the
money market.To make bank rate more effective.To prevent a ‘run on the bank’.
QUANTITATIVE METHODS- OPM Conditions for OPM
Institutional FrameworkLegal FrameworkMaintenance of a Definite Cash
Reserve RatioNon-operation of Extraneous FactorsNon-existence of Direct Access of
Commercial Banks to the Central Bank
Limitations for OPM
QUANTITATIVE METHODS- VRR Variable Reserve Ratio refers to the
percentage of the deposits of the commercial banks to be maintained with the central bank, being subject to variations by the central bank.
In other words, altering the reserve requirements of the commercial banks is called variable reserve ratio.
QUANTITATIVE METHODS- VRR Theory of VRR
The theory underlying the mechanism of variable reserve ratio is that by varying the reserve requirements of the banks, the central bank is in a position to influence the size of credit multiplier of the banks and therefore the supply of credit in the economy.
Working of Variable Reserve Ratio
Limitations of VRR
SELECTIVE OR QUALITATIVE METHODS
Features of Selective Measures
Objectives
o Distinguish between essential and non-essential uses of bank credit.
Only non-essential uses are brought under the scope of central bank controls.
Affect not only the lenders but also the borrowers.
Divert the flow of credit Regulate a particular sector of
the economy Regulate the supply of
consumer credit. Stabilise the prices of inflation
sensitive goods. Stabilise the value of
securities. Correct an unfavourable BoP Bring under the control of the
central bank Exercise control upon the
lending operations of the commercial banks.
MEASURES OF SELECTIVE CREDIT CONTROL
Margin Requirements Regulation of Consumer Credit
They limited the amount of credit that might be granted for the purchase of any article listed in the regulations; and
They limited the time that might be agreed upon for repaying the obligation
Rationing of Credit Fixes a limit upon its rediscounting facilities for
any particular bank. Fixes the quota of every affiliated bank for
financial accommodation from the central bank.
MEASURES OF SELECTIVE CREDIT CONTROL
Control through DirectivesWith direct power of controlling bank
advances either by statute or by mutual consent between the central bank and commercial banks.
Moral Suasion
Direct Action
Publicity
LIMITATIONS The selective controls embrace the commercial banks
only and hence the nonbanking financial institutions are not covered by these controls.
It is very difficult to control the ultimate use of credit by the borrowers.
It is rather difficult to draw a line of distinction between the productive and unproductive uses of credit.
It is quite possible that the banks themselves through manipulations advance loans for unproductive purposes.
Selective controls do not have much scope under a system of unit banking.
Development of alternative methods of business financing has reduced the importance of selective controls.
WEAPONS OF CREDIT CONTROL BY RBI
Quantitative or general methods or instruments. Bank rate Open Market Operations Cash Reserve Ratio (CRR) Statutory Liquidity Ratio (SLR)
Qualitative or selective methods or instruments. Variation of Margin Requirements Credit Authorization Scheme (CAS) & Credit
Monitoring Arrangement (CAM) Control of Bank Advances Differential Interest Rates Credit Squeeze Policy Moral suasion
RBI & MONETARY POLICY The main objective of monetary policy pursued
by the Reserve Bank of India is that of ‘controlled monetary expansion.’
Objectives of Monetary policy are:Expansion in the supply of money, and
As incomes grow the demand for money as one of the components of savings tends to increase.
Increase in money supply is also necessitated by gradual reduction of non-monetised sector of the economy.
Restraint on the secondary expansion of credit. While exercising restraints, care should be taken
that the legitimate requirements of agriculture, industry and trade are not adversely affected
COVERAGE OF MONETARY POLICY
RBI AND ECONOMIC DEVELOPMENT
ASSIGNMENT QUESTIONS Recent changes in the Monetary Policy
of RBI past 3 months.
Impact of the RBI’s monetary policy on the economy
Impact of the Monetary policy on the performance of the Banks