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Central Banking

Central Banking

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CENTRAL BANKING

ESSENTIAL FEATURES OF CENTRAL BANK
 It stands as the lender of money, issue notes and

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coins, supervises, controls and regulates the activities of the banking system and acts as the banker to the government. Discretionary control over the monetary system of the country. It acts as the leader of the money market and in that capacity it supervises , controls and regulates the activities of the commercial banks. Called central bank ? Central bank is an institution whose main function is to help, control and stabilize the monetary and

Need for central bank  Direction & regulation  Issue of currency notes  Foreign exchange reserve  Banker to the government  Banker’s Bank  Control of credit .

inspect books) . To abolish weak currency system 2.) 5. Control over Banking System ( issue licenses. it provides loans and advances to medium and small scale banks.OBJECTIVES OF CENTRAL BANKS 1. Maintain value of currency 3. To act as Banker’s Bank ( control over the cash reserves of the commercial banks) (RBI acts as a central bank. Appropriate credit policy 4.

A reduction in the Rate will help banks to get money at a cheaper rate.B.Functions of central bank  Monopoly Power of note issue  Banker’s Bank ( C. An increase in Reverse repo rate can cause the banks to transfer more funds to RBI due to this attractive interest rates. When the Repo rate increases borrowing from RBI becomes more expensive. . Repo rate is the rate at which our banks borrow rupees from RBI.  Reverse Repo Rate: Reverse Repo rate is the rate at which Reserve Bank of India (RBI) borrows money from banks. acts a custodian of cash reserves)  Repo Rate: Whenever the banks have any shortage of funds they can borrow it from RBI. Banks are always happy to lend money to RBI since their money are in safe hands with a good interest.

Functions of central bank  Controller Of credit ( To ensure price stability the supply of bank credit is to be regulated) ( keep the supply of bank credit in limit)  Banker to the government  Custodian of Foreign Exchange Reserve  Promotional and developmental function  Regulator of domestic financial institutions .

1935 in accordance with the provisions of the Reserve Bank of India Act. the Reserve Bank is fully owned by the Government of India. The Central Office is where the Governor sits and where policies are formulated. 1934. since nationalization in 1949. The Central Office of the Reserve Bank was initially established in Calcutta but was permanently moved to Mumbai in 1937.RESERVE BANK OF INDIA  The Reserve Bank of India was established on April     1. It has to regulate the issue of bank notes and the keeping of reserves with a view of securing monetary . Though originally privately owned.

5. 6. Flexible Monetary Policy Success in Notes Issue Government’s Banker Maintaining Stable interest Rate Advisor to the Government Arrangement of public debt Control over banks Maintaining stable exchange rate system ( relation with IMF) Agricultural Development Industrial finance Regulating money market and government . 2. 10. 4. 3. 8. 9. 7. 11.ROLE of rbi 1.

Where RBI has failed ?  No control over inflation  No uniformity in interest rates  No link with indigenous banking  Banking problems  Failure in Agricultural Finance .

FUNCTIONS OF RBI  The functions are classified into three heads. A) Traditional functions B) Promotional functions and C) Supervisory functions .viz..

Fight against economic crisis and ensures stability of Indian economy.Banker to the bankers 5.Banker to the Government(both the central and state) 3.TRADITIONAL FUNCTIONS 1.Controller of forex and credit 10.Acts as the clearing house of the country 6.Publishes the Economic statistical data 12.Lender of the last resort 7.Maintaining the external value of domestic currency 9.Custodian of the foreign exchange reserves 8.Agent and advisor to the Government 4.Monopoly of currency notes issue 2.Ensures the internal value of the currency 11. .

Innovating the new banking business transactions. 7.Promotion of banking habit and expansion of banking systems. 6.Helping the Co-operative sectors.Promotional functions 1.Expansion of the facilities for the provision of the agricultural credit through NABARD 4.Prescribe the minimum statutory requirement. .Provides refinance for export promotion 3.Extension of the facilities for the small scale industries 5. 2.

Granting license to Banks. 7. 3. 4. 5. 6.Supervisory functions 1. Inspects and makes enquiry or determine position in respect of matters under various sections of RBI and Banking regulations Implements Deposit insurance scheme Periodical review of the work of the commercial banks Giving directives to commercial banks Control the non-banking finance corporation Ensuring the health of financial system through onsite and off-site verification. . 2.

 Monetary authority is a part of economic policy which a country tries to implement to attain certain objectives.  In developing economies there has to be a continuous expansion of money supply and bank credit and the central bank has the duty to see that legitimate credit requirements are met.MONEY CREATOR  Monetary policy means a regulatory policy of RBI  Control over the supply of money for the realization of general economic goals. Stable prices . A. Rapid economic growth B.

 Now the demand for credit is not seasonal  Indian economy is globalized – Integration  Policy announcements are made throughout the year 1. Interest rates  Monetary policy acts through the cost and availability of credit and money.MONEY CREATOR  C.B has the responsibility to manage Monetary magnitudes 2. . Credit flows 3.

and thus credit.  Monetary Policy operates on monetary magnitudes or variables such as money supply. interest rates and availability of credit.  Monetary Policy ultimately operates through its influence on expenditure flows in the economy.  In other words affects liquidity and by affecting liquidity.What is Monetary Policy?  The term monetary policy refers to actions taken by central banks to affect monetary magnitudes or other financial conditions. it affects total demand in the economy. .

volume and direction of credit  Sectoral & overall development  Controlled expansion of bank credit  Disinflation without deflation  Credit expansion takes place the right way  Increase productivity of investment  Independent objective: Promotion of Exports .Why monetary policy is needed  Accelerate economic development  Reasonable price stability  Institutional set up  Influencing the cost.

Two basic objectives Money supply & volume of credit Money supply does not change on its own Variations in the bank credit is the major factor which influences economic activity.Why monetary policy is needed  RBI’s monetary policy should have the national. Price stability & economic growth.     social and economic objectives. .

Reasonable Price Stability 6. Stable exchange rate 3.Aims of Monetary policy  MP is a part of general economic policy of the govt. Full employment 2.  Objective of MP may be: 1.  Thus MP contributes to the achievement of the goals of economic policy. Economic growth 5. Healthy BoP 4. Greater equality in distribution of income & wealth 7. Financial stability .

.Techniques of Monetary Control 1.     2.    Open Market Operations: Sales and purchases of government securities Affects reserve position of the banks Least used technique by the bank Sale or purchase Treasury bills in the open market Bank Rate: Financial assistance in the form of rediscounting of bills of exchange and promissory notes Loans and advances If the bank rate is reduced the finance will be more and if it is increased there will be less demand for finance.

Direct Regulation of Interest Rates:  RBI can control the monetary policy by regulating market rates of interest directly.  To ensure solvency of banks . The objectives of SLR are:  To restrict the expansion of bank credit.  To augment the investment of the banks in Government securities.Techniques of Monetary Control 3. 4. bond and shares of different companies. Statutory Liquidity Ratio  Statutory Liquidity Ratio or SLR refers to the amount that all banks require to maintain in cash or in the form of Gold or approved securities. Cash Reserve Ratio 5. Approved securities means.

banks can use cash. or Cash Reserve Ratio.  The other difference is that to meet SLR.  CRR.Techniques of Monetary Control  Difference between SLR & CRR:  What SLR does is it restricts the bank’s leverage in pumping more money into the economy.  Higher the ratio. whereas SLR is maintained in liquid form with banks .  CRR is maintained in cash form with RBI. is the portion of deposits that the banks have to maintain with the RBI. the lower is the amount that banks will be able to use for lending and investment. gold or approved securities whereas with CRR it has to be only cash.

7. .Techniques of Monetary Control 6. Credit rationing:  Credit rationing – a situation in which lenders are unwilling to advance additional funds to borrowers at the prevailing market .Moral suasion:  RBI usually writes letters and holds discussions with the banks about the trends in the economy in general and in money.  The RBI also informs the measures to be taken from taken from time to time in the light of national objectives. credit and finance in particular.

Techniques of Monetary Control 8. Credit Authorization Scheme:  Regulate credit to control inflation  Enforce financial discipline on large borrowers  End use credit is genuine  Applicable to all banks .  Fixation of margin requirements 9.  These controls are used to reduce the supply of credit in certain directions and to encourage credit in certain directions.Selective Credit Control:  Seasonal nature and inflation have made selective credit controls most actively used technique of monetary control in India.

Fixation of credit norms:  Issuing guidelines to banks in order to exercise monetary control  Micro level inventory norms  New methods of bank lending  Reduce dependence of industrial borrowers on bank financing 11.  Realistic annual credit budget incorporating estimates of volume and growth of deposits of other resources and demand for credit  Submitted to RBI . areas and purposes.Techniques of Monetary Control 10. Credit Planning:  Regulating the expansion of funds at the desired level and direct flows of funds to desired sectors.

 Deposit is created out of loan ? .Expansion of bank deposits  Take deposits from public and repay on demand  Deposits are lent out to the businessmen for certain periods.  On the basis of small reserves banks can create a huge superstructure of credit known as credit creation by banks.CREDIT REGULATOR  Credit creation  Bank is the factory of credit  Credit creation.

Credit control . Cash deposit 2. Desire of people to hold cash 4. Keep certain portion of these deposits in cash 3. Remaining amount is lended 1. Ratio of reserve to deposits 3.Process of credit creation Receive deposits from public 2. LIMITATIONS ON CREDIT CREATION BY BANKS: 1. Business conditions 5.

. inspect the working habits of other banks Conduct ad hoc investigations from time to time into complaints. reappointment and termination of the chairman and chief executive officers of the private sector banks.Supervision of banking sector  RBI has power to supervise and control commercial      and co-operative banks RBI issues licenses Prescribe minimum requirements regarding paid up capital and reserves Cash and other reserves. irregularities and frauds in the banks Control appointment.

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