Learning Objective Historical background central banking Definition of central bank and state bank What is assets structure of central bank? What are reasons to establish State Bank of Pakistan? What are roles and functions of SBP?

Definition of Central Bank “Institutions that regulate the environment in which private banks operate and to make sure the controlled supply of Money”.

History of Central Bank First World War –Large withdrawals from Banks –Rigidity & Lack of Supply of currency –Own central Bank SBP was established in July 1,1948. Constitution –Not for profit motive –Central board of Directors One Governor One Deputy Governor Nine directors –SBP 14 Departments 5000 employees

Assets Structure The assets structure of the central bank differ from country to country. In some country central bank are nationalized. Example: Bank of France(1800) is nationalized, The Federal Reserve System of America is Private. SBP (1948), The Bank of Japan(1948) have the mixed system etc.

Organization The organization of Federal Bank reserve system comprises 5 agencies or group of agencies: The Board of Governors. The Federal Open Market Committee. The Federal Advisory Council. The Federal Reserve Bank & their branches. Member Banks of Federal Reserve System.

Functions of Central Bank Sole Right of Note Issue –Uniformity –Monopoly Power –Public Confidence Bankers, Agents and Adviser to the Government. –As Banker –As Financial Agent –As Advisor Banker to Commercial Banks –Holds Cash Reserves & Deposits –Rediscount Bills of Exchange –Creation of Credit

Functions of Central Bank Controller of Credit –Strategies Stability in internal Price level of the Country Stability in Exchange Rates The money Market –Main Instruments Bank Rates Open Market Operations Cash Reserve Ratio Clearing Agents –Advantages Use of cash Strengthens the Banking System Fully informed about Liquidity Position Custodian of Cash Reserves Development Role Other Functions –Maintain relation with international Agencies –Provides Training Facilities –Conduct Seminars, Surveys and Publishes Annual Reports

Responsibilities of Central Bank Central bank as a Government banker. Bank as a agent of Government Bank as a financial Adviser.

Central Bank as Government’s Banker Bank as Agent of the Government Bank As a Financial Advisor

Monetary Policy Monetary Policy is the deliberate exercise of the monetary authority’s power to induce expansion & contraction in the money supply.

Promoting High Employment Achieving Steady Economic Growth Stable price as a Goal Stability in Interest Rate Promoting a more Stable Financial Markets Stability in the Foreign Exchange Market Objectives of Monetary Policy

Tools of Monetary Policy Quantitative Controls Open Market Operations Variation in Bank Rate Credit Rationing Varying Reserve Requirements Qualitative Controls Varying Margins Requirements Consumer’s Credit Rationing Use of Moral Persuasion Direct Action

1: Open Market Operations Basic instruments: oOpen market operations. oDiscount policy. oChanging in reserves requirements

Effects Of Open Market On reserves of commercial banks. On interest rates. During inflation. During depression On balance of payments.

Limitations of Open Market Money and capital market not developed. Excessive cash reserves. Attitude of the people. Cash ratio. Bank credit is interest inelastic. Less effective during depression.

Discount policy/bank rate policy “Discount policy refers to the “conditions under which banks are permitted 2 borrow from the Central Banks discount window including the rate of interest charged on these loans”.

2: Discount Rate “Discount rate refers to that official rate at which the central bank of a country is prepared to discount or more correctly to say rediscount the first class bills of exchange”

Importance of Discount Rate Importance of discount rate lies in:- Market is more or less directly influenced by discount rate. If the money market is well organized &the economy structure of the country is fairly elastic, a rise in discount rate is generally followed by an increase in the market rate. A fall in bank rate is followed by a decrease in market rate.

Different B/w Discount Rate & Market Rate Discount Rate: It is also called as a Bank Rate. It is fixed arbitrarily by the central bank on any fixed day of the weak. It is minimum rate which is charged by the central bank for discounting 1 st class bills of exchange. Market Rate: It is rate at which the money market is willing to discount bills of exchange. It is established by the interaction of forces of supply & demand for the bills of exchange by the joint stock, discount houses, etc.

CONTINUE Affects of Bank Rate Policy 1.Change in the discount rate shows direction of the central banks policy. 2.Effect the future market rates such as the rates charged by discount houses, the rates charged on advances to customers etc.

CONTINUE Continue…. 3.The lowering or increasing in bank rate has far reaching results on trade, industry, employment, production, income and prices.

Continue… 1.Central bank raises bank rate. 2.Money market interest rate increases. 3.Decline in borrowing by business people. 4.Fall in out put, employment and income. The lowering of bank rate has opposite effects on the economy if it is operating at less then full employment.

Limitations Of Discount Policy When bank rate increases then market rate also increases & vise versa. Effective influence of volume of credit in developing country. Regulating the volume of bank reserves. Little effect on the cash reserves of the bank. Undeveloped and unorganized bill markets in country Rise in the interest shows monetary policy is lighter, Lowering indicates easier monetary policy.

3: Changing in Legal Reserve Requirements 4: Credit Rationing

Qualitative Controls Varying Margin Requirements Consumer’s Credit Rationing Use of Moral Persuasion Direct Action

Central Bank as Custodian of Cash Reserves Legal Reserves of Member Bank Use as a Monetary Policy –Advantages of Reserve Requirement Immediate Impact Equal Effect Easy to Interpret Useful in Emergencies –Shortcomings in the use of Percentage Reserve Requirements Defect in planning by Bank Management Less Flexibility

Clearance House Definition: “It is an association of commercial banks set up in a given locality for the purpose of interchange & settlement of credit claims”.

History of Clearance House 1.Rapid growth in banking after World War(2). 2.Widely increase in cheques payments.

Merits of Clearance Houses Mutual obligations of commercial banks are economical and safe. Provide opportunities to commercial banks to set off inter bank debits. Carry out monetary policy in the best interest of country. Provides an opportunity 2 promote interests of member banks. Effective device for preventing destructive & undesirable competition. Member banks assist to tide over timely crisis.

Role of Central Bank in Underdeveloped Money Market Money market consists of all the institutions which are engaged in the borrowing and lending of the short term funds.

Members of money market  Central banks.  Commercial banks.  Co-operative banks.  Saving banks.  Specialized financial institution  Discount houses  Stock exchanges.

Main measures of Central Bank to improve the conditions of under developed money market Commercial bank. Saving banks. Co-operative banks. Assistance to specialized financial institution. Credit targets. Export finance scheme. Treasury bills. Commercial borrowing. Monetary and credit policy

STATE BANK OF PAKISTAN HISTORY OF STATE BANK OF PAKISTAN (SBP) (1948)

History of SBP To establish central bank of Pakistan so it have independent currency and banking system. The transitional arrangement of having one Central Bank for two independent countries was promulgated by Governor General of undivided India on August 14, 1947 by an order called Monetary System and Reserve Bank Order The main provisions of “ The Pakistan Monetary System & Reserve Bank Order1947” were as follow: –Sole note issuing authority till October 1, 1948 –Indian note remain legal tender till 30 th September,1948 –Transfer the assets of value equal to Pakistani note –Issuance of Coins –Reserve Bank of India perform Full functions of Central Bank in Pakistan up to September 30,1948.

Establishment of State Bank of Pakistan Face serious Banking situation Wholesale Migration of the banking staff to India Refuse to give Rs.55 Caror Decided to establish its own currency authority Issued order by Quid-e-Azam to establishment of SBP on 1 st of July,1948 SBP order 1948 –Regulating the issue of bank notes& keeping the reserves with a view to seeking monetary stability in Pakistan & generally to cooperate the currency & credit system of the country to its advantage. SBP banking Act 1956 which requires the Bank –To regulate the monetary & credit system of Pakistan & to foster its growth in the best national interest with a view to securing stability for full utilization of the country productive resources.” SBP also be entrusted with the prosperity, stability & growth of domestic economy.

Establishment of State Bank of Pakistan Share Capital –51% From Central Government & 49% From private sector –Only permanent citizens of Pakistan allowed to purchase the share of Bank Constitution –Not for profit motive –Central board of Directors One Governor One Deputy Governor Nine directors –SBP 14 Departments 5000 employees –Departments Accounts Administration

Banking Services Corporation Function which SBP had been performing and involved public dealings have been transferred to the State Bank of Pakistan Banking Services Corporation. The new corporation has started functioning from 22 nd Jan, 2002 as a subsidiary organization to SBP. Its paid up capital was 1 billion RS.

Function of Banking Services Revenue collection. Maintain the accounts of Federal and Provisional Government and local bodies. Work as clearing houses of commercial banks. Manage public debt, sale & purchases of prize bonds and treasury bills.

Role Of State Bank In Economic Development Since 1 st July, 1948 SBP is performing traditional, developmental & promotional functions: Traditional functions. Building up sound banking system. Assistance to specialized financial institutions. Promotion of exert finance. Credit targets. Exchange control. Training facilities. Proper interest rate structure. Ensuring internal price stability.

Framework of SBP Wide powers to central board. Change in reserve requirements. Advice to Government. Supervision of FDI’s. Recoveries of arrears as land revenue. Establishment of monetary & fiscal policies coordination board.

Instruments of Credit control Quantitative Control: Bank rate. Open market operations. Variable Reserve Req. Credit rationing. Credit targets. Qualitative Control: Moral Persuasion. Direct Action.