Central Bank Chapter # 5

Central Bank A central bank is an institution which is responsible for safeguarding the financial stability of the country.

Function of The Central Bank 1:Monopoly of note issue. 2:Banker to government. 3:Lender of the last resort. 4:Controller of the credit . -

1:Monopoly of note issue The central bank of a country is responsible for issuing currency notes for it. The notes issued should be according to the needs of trade and industry. Principals of note issue: 1:Currency principle 2: Banking Principal

Note issuance

2: Banker to the Government Central Bank :Is a banker to the government of the country. It performs all services which a commercial banks do for its customers. like…. Collect taxes on behalf of gov’t, pay pensions and salaries to employees Advisor in financial matters to the government provides short term advances to government.

3:Lender of the last resort The central Bank acts as lender of the last resort for the commercial banks. It helps other banks during their financial difficulties. For this purpose it advance loans to banks……..

4:Controller of credit The most important function of central bank in modern times is that of controlling the credit operations of commercial banks by regulating their credit volume…

For controlling credit C. B use… For controlling credit C.B use…. 1:Bank rate policy 2:Change in reserve ratio 3:Credit rationing. 4: Direct action

Credit Control(Monetary policy) Credit control is necessary for economic stability in a country… Central bank increase or decrease the credit according to the needs of a country for achieving economic stability through controlling supply of money.

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Methods of Credit Control It adopts various methods for this purpose… 1: Bank rate policy 2: Open market operation 3: Credit rationing 4: Direct action 5: Reserve ratio

1: Bank rate policy Bank rate is the rate of interest at which central bank advances loans to the commercial banks. When central bank increase the bank rate, commercial banks raise interest rate in giving out loans ,for decreasing the flow of money. When central bank decrease the bank rate, commercial banks lower the interest rate in giving out loans, for increasing the flow of money.

2: Open market Operation It refers to purchase and sale of gov’t securities by the central bank in open market, (Purchase and sale of any kind of paper) During inflation… Central bank sells securities which results decrease in supply of money… During deflation… Central bank purchase securities which results increase in supply of money

3: Credit rationing Under this method Central bank allots credit quota(portion) to commercial banks on basis of their business… In case of inflation… Central bank decrease credit quota… In case of deflation… Central bank increase credit quota….

4: Direct action If commercial banks are following the policy that is inconsistent with the monitory policy of central bank… It can take direct action by imposing penalty over commercial banks…Like banning its new branches.

5:Changes in reserve ratios Central bank also control the credit by changing the reserve ratios of commercial banks which is normally 25%.... In times of inflation: Central bank increase the reserve ratio In times of deflation: Central bank decrease the reserve ratio