Dear Class 12 Samacheer Kalvi students, here are the Text Book Solutions in Chapter 6 – Banking.
Part-A Multiple Choice Questions
| 1. A Bank is a | |
| a) Financial institution | |
| b) Corporate | |
| c) An Industry | |
| d) Service institutions | |
| 2. A Commercial Bank is an institutions that provides services | |
| a) Accepting deposits | |
| b) Providing loans | |
| c) Both a and b | |
| d) None of the above | |
| 3. The Functions of commercial banks are broadly classified into | |
| a) Primary Functions | |
| b) Secondary functions | |
| c) Other functions | |
| d) a, b, and c | |
| 4. Bank credit refers to | |
| a) Bank Loans | |
| b) Advances | |
| c) Bank loans and advances | |
| d) Borrowings | |
| 5. Credit creation means | |
| a) Multiplication of loans and advances | |
| b) Revenue | |
| c) Expenditure | |
| d) Debt | |
| 6. NBFI does not have | |
| a) Banking license | |
| b) government approval | |
| c) Money market approval | |
| d) Finance ministry approval | |
| 7. Central bank is --------------- authority of any country. | |
| a) Monetary | |
| b) Fiscal | |
| c) Wage | |
| d) National Income | |
| 8. Who will act as the banker to the Government of India? | |
| a) SBI | |
| b) NABARD | |
| c) ICICI | |
| d) RBI | |
| 9. Lender of the last resort is one of the functions of | |
| a) Central Bank | |
| b) Commercial banks | |
| c) Land Development Banks | |
| d) Co-operative banks | |
| 10. Bank Rate means | |
| a) Re-discounting the first class securities | |
| b) Interest rate | |
| c) Exchange rate | |
| d) Growth rate | |
| 11. Repo Rate means | |
| a) Rate at which the Commercial Banks are willing to lend to RBI | |
| b) Rate at which the RBI is willing to lend to commercial banks | |
| c) Exchange rate of the foreign bank | |
| d) Growth rate of the economy | |
| 12. Moral suasion refers | |
| a) Optimization | |
| b) Maximization | |
| c) Persuasion | |
| d) Minimization | |
| 13. ARDC started functioning from | |
| a) June 3, 1963 | |
| b) July 3, 1963 | |
| c) June 1, 1963 | |
| d) July 1, 1963 | |
| 14. NABARD was set up in | |
| a) July 1962 | |
| b) July 1972 | |
| c) July 1982 | |
| d) July 1992 | |
| 15. EXIM bank was established in | |
| a) June 1982 | |
| b) April 1982 | |
| c) May 1982 | |
| d) March 1982 | |
| 16. The State Financial Corporation Act was passed by | |
| a) Government of India | |
| b) Government of Tamilnadu | |
| c) Government of Union Territories | |
| d) Local Government | |
| 17. Monetary policy his formulated by | |
| a) Co-operative banks | |
| b)Commercial banks | |
| c) Central Bank | |
| d) Foreign banks | |
| 18. Online Banking is also known as | |
| a) E-Banking | |
| b) Internet Banking | |
| c) RTGS | |
| d) NEFT | |
| 19. Expansions of ATM | |
| a) Automated Teller Machine | |
| b) Adjustment Teller Machine | |
| c) Automatic Teller mechanism | |
| d) Any Time Money | |
| 20. 2016 Demonetization of currency includes denominations of | |
| a) Rs. 500 and Rs. 1000 | |
| b) Rs. 1000 and Rs. 2000 | |
| c) Rs. 200 and Rs. 500 | |
| d) All the above |
Part – B Answer the following questions in one or two sentences.
21. Define Commercial banks.
Answer: Commercial Banks are the institutions that make short term loans to business and in the process create money – Culbertson
22. What is credit creation?
Answer: Credit Creation means the multiplication of loans and advances. Commercial banks receive deposits from the public and use these deposits to give loans. However, loans offered are many times more than the deposits received by banks. This function of banks is known as ‘Credit Creation’.
23. Define Central bank.
Answer: A central bank is an institution that manages a state’s currency, money supply, and interest rates. Central banks also oversee the commercial banking system of their respective countries.
24. Distinguish between CRR and SLR.
Answer:
| Basis | CRR | SLR |
| Meaning | Banks are required to hold a certain proportion of their deposits in the form of cash with RBI. This is known as CRR. | Statutory Liquidity Ratio (SLR) is the amount which a bank has to maintain in the form of cash, gold or approved securities. |
| Form | It is maintained in the form of cash. | It is maintained in the form of cash, gold or approved Securities. |
| Function | To control the credit flow in the country. | To meet the sudden demand of depositors. |
25. Write the meaning of Open market operations.
Answer: The Central Bank purchases and sells not only Government securities but also other proper eligible securities like bills and securities of private concerns. Payment for these purchases is done via the Central bank. This is called open market operations.
26. What is rationing of credit?
Answer: This is the oldest method of credit control. Rationing of credit was first used by the Bank of England by the end of the 18th Century. It aims to control and regulate the purposes for which credit is granted by commercial banks.
27. Mention the functions of agriculture credit department.
Answer: The functions of the agriculture credit department are:
a) To maintain an expert staff to study all questions on agricultural credit;
b) To provide expert advice to Central and State Government, State Co-operative Banks and other banking activities.
c) To finance the rural sector through eligible institutions engaged in the business of agricultural credit and to co-ordinate their activities.
Part – C Answer the following questions in about a paragraph
28. Write the mechanism of credit creation by commercial banks.
Answer: Money is created when the banks, through their lending activities, make a net addition to the total supply of money in the economy. Likewise, money is destroyed when the loans are repaid by the borrowers to the banks and the credit already created by the banks is wiped out in the process.
Banks have the power to expand or contract demand deposits and they exercise this power through granting more or less loans and advances and acquiring other assets. This power of commercial bank to create deposits through expanding their loans and advances is known as credit creation.
Modern banks create deposits in two ways. They are primary deposits and derived deposits. When a customer gives cash to the bank and the bank creates a book debt in his name called a deposit, it is known as a “primary deposit’. But when such a deposit is created, without there being any prior payment of equivalent cash to the bank, it is called a ‘derived deposit’.
29. Give a brief note on NBFI.
Answer: A non-banking financial institution (NBFI) is a financial institution that does not have a full banking license or is not supervised by the central bank.
NBFIs do not carry on pure banking business, but they will carry on other financial transactions. They receive deposits and give loans. They mobilize people’s savings and use the funds to finance expenditure on investment activities. In short, they are institutions which undertake borrowing and lending. They operate in both the money and the capital markets. NBFIs can be broadly classified into two categories. Viz.., (1) Stock Exchange; and (2) Other Financial institutions.
30. Bring out the methods of credit control.
Answer: The methods of credit control are:
I. Quantitative or General Methods:
a. Bank Rate Policy: The bank rate is the rate at which the Central Bank of a country is prepared to re-discount the first class securities.
a. Open Market Operations: The Central Bank purchases and sells not only Government securities but also other proper eligible securities like bills and securities of private concerns. Payment for these purchases is done via the Central bank. This is called open market operations.
c. Variable Reserve Ratio: It is of two types.
i) Cash Reserves Ratio: Under this system the Central Bank controls credit by changing the Cash Reserves Ratio.
ii) Statutory Liquidity Ratio (SLR) is the amount which a bank has to maintain in the form of cash, gold or approved securities.
II. Qualitative or Selective Method ofCredit Control:
The following are the frequent methods of credit control under selective method:
i. Rationing of Credit: This is the oldest method of credit control. It aims to control and regulate the purposes for which credit is granted by commercial banks.
ii. Direct Action: The central bank may take direct action by refusing to grant discounting facilities to such banks. It may refuse to sanction further financial accommodation or it may start charging penal rate of interest on money borrowed by a bank beyond the prescribed limit.
iii. Moral Persuasion: The Central Bank gives advice, then requests. and persuades the Commercial Banks to co-operate with the Central Bank in implementing its credit policies.
iv. Method of Publicity: In order to make their policies successful, the Central bank takes up publicity.
v. Regulation of Consumer’s Credit: The down payment is raised and the number of installments reduced for the credit sale.
vi. Regulating the Marginal Requirements on Security Loans: This system is intended to help the Central Bank in controlling the volume of credit used for speculation in securities under the Securities Exchange Act, 1934.
31. What are the functions of NABARD?
Answer: The functions of NABARD are:
(i) NABARD acts as a refinancing institution for agriculture, small-scale industries, cottage and village industries, handicrafts and rural crafts, real artisans and other allied economic activities with a view to promoting integrated rural development.
(ii) It provides short-term, medium term and long-term credits to state co-operative Banks (SCBs), RRBs, LDBs and other financial institutions approved by RBI.
(iii) NABARD gives long-term loans (upto 20 Years) to State Government to enable them to subscribe to the share capital of co-operative credit societies.
(iv) NABARD gives long-term loans to any institution approved by the Central Government or contribute to the share capital or invests in securities of any institution concerned with agriculture and rural development.
(v) NABARD has the responsibility of co-ordinating the activities of Central and State Governments, the NITI Aayog and other State level institutions entrusted with the development of small scale industries, village and cottage industries, rural crafts, industries in the tiny and decentralized sectors, etc.
(vi) It has the responsibility to inspect RRBs and co-operative banks, other than primary co-operative societies.
(vii) It maintains a Research and Development Fund to promote research in agriculture and rural development.
32. Specify the functions of IFCI.
Answer: IFCI was established on July 1, 1948 under the Act of the Parliament. IFCI provides assistance to the industrial concerns in the following ways:
i) Long-term loans; both in rupees and foreign currencies.
ii) Underwriting of equity, preference and debenture issues.
iii) Subscribing to equity, preference and debenture issues.
iv) Guaranteeing the deferred payments in respect of machinery imported from abroad or purchased in India; and
v) Guaranteeing of loans raised in foreign currency from foreign financial institutions.
33. Distinguish between money market and capital market.
Answer:
| Basis | Money Market | Capital Market |
| Duration | It is a market for short-term loanable funds for a period of not exceeding one year. | It is a market for long-term funds exceeding period of one year. |
| Financial Instruments | It deals with instruments like commercial bills (bill of exchange, treasury bill, commercial papers etc.). | It deals with instruments like shares, debentures, Government bonds, etc. |
| Institutions | Commercial banks, acceptance houses, Non Banking Financial Institutions and the Central Bank | Commercial banks, Stock exchange, non-banking institutions like insurance companies etc |
| Role of Major Institution | The central bank and commercial banks are the major institutions in the money market. | Development banks and Insurance companies play a dominant role in the capital market. |
| Participants | Transactions have to be conducted without the help of brokers i.e., Bankers, RBI and Government. | Transactions have to be conducted only through authorized dealers i.e., Brokers, Investors, Merchant Bankers, Underwriters and Commercial Banks. |
| Risk | Low credit and market risk. | High credit and market risk. |
34. Mention the objectives of demonetization.
Answer: The objectives of demonetization are:
1. Removing Black Money from the country.
2. Stopping of Corruption.
3. Stopping Terror Funds.
4. Curbing Fake Notes
Part – D Answer the following questions in one page.
35. Explain the role of Commercial Banks in economic development.
Answer: The role of Commercial Banks in economic development are:
1. Capital Formation:
Banks play an important role in capital formation.
They mobilize the small savings of the people scattered over a wide area through their network of branches and make it available for productive purposes.
They offer attractive schemes to induce people to save their money with them. They bring these savings to the organized money market. If the banks do not perform this function, savings remain idle or are used in creating other assets like gold which are low in scale of plan priorities.
2. Creation of Credit
Banks create credit for the purpose of providing more funds for development projects. Credit creation leads to increased production, employment, sales and prices and thereby they bring about faster economic development.
3. Channelizing Funds towards Productive Investment
Banks invest the savings mobilized by them for productive purposes. Capital formation is not the only function of commercial banks. Pooled savings should be allocated to various sectors of the economy to increase productivity. Then only it can be said to have performed an important role in economic development.
4. Encouraging Right Type of Industries
Many banks help in the development of the right type of industries by extending loan to right type of persons. In this way, they help in industrialization and economic development of the country. They grant loans and advances to manufacturers whose products are in great demand.
The manufacturers in turn increase their products by introducing new methods of production and assist in raising the national income of the country. Sometimes, subprime lending is also done.
5. Banks Monetize Debt
Commercial banks transform the loan to be repaid after a certain period into cash, which can be immediately used for business activities. Manufacturers and wholesale traders cannot increase their sales without selling goods on credit basis.
But credit sales may lead to locking up of capital. As a result, production may be reduced. As banks lend money by discounting bills of exchange, business concerns are able to carry out the economic activities without any interruption.
6. Finance to Government
Government is acting as the promoter of industries in underdeveloped countries. Banks provide long-term credit to Government by investing their funds in Government securities and short-term finance by purchasing Treasury Bills. RBI has given Rs.68,000 crores to the government of India in the year 2018-19.
7. Employment Generation
After the nationalization of big banks, banking industry has grown to a great extent. Bank’s branches are opened frequently, which leads to the creation of new employment opportunities.
8. Banks Promote Entrepreneurship
In recent days, banks have assumed the role of developing entrepreneurship particularly in developing countries like India. They induce new entrepreneurs to take up well-formulated projects and provide counseling services like technical and managerial guidance. Banks provide 100% credit for worthwhile projects, which is technically feasible and economically viable.
36. Elucidate the functions of Commercial Banks.
Answer: The functions of commercial banks are
(a) Primary Functions and Secondary functions.
| Primary Functions | Secondary Functions | Other Functions |
| Accepting Deposits | Agency function | Money supply |
| Advancing Loans | General utility services | Credit creation |
| Transfer of funds | Collection of Statistics | |
| Letter of credit |
1. Accepting Deposits
Commercial banks are mainly dependent on public deposits. There are two types of deposits.
(i) Demand Deposits: It refers to deposits that can be withdrawn by individuals without any prior notice to the bank.
(ii) Time Deposits: It refers to deposits that are made for a committed period of time.
2. Advancing Loans
It refers to granting loans to individuals and businesses. Commercial banks grant loans in the form of overdraft, cash credit, and discounting bills of exchange.
(b) Secondary Functions
The secondary functions can be classified under three heads, namely, agency functions, general utility functions, and other functions.
1. Agency Functions: Commercial banks act as agents of customers by performing various functions such as:
(i) Collecting Cheques: Banks collect cheques and bills of exchange on behalf of their customers through clearing house facilities provided by the central bank.
(ii) Collecting Income: Commercial banks collect dividends, pension, salaries, rents, and interests on investments on behalf of their customers.
(iii) Paying Expenses: Commercial banks make payments for various obligations of customers, such as telephone bills, insurance premium, school fees, rents etc.
(2) General Utility Functions: Commercial banks provide some utility services to customers by performing various functions such as:
(i) Providing Locker Facilities: Commercial banks provide locker facilities to its customers for safe custody of jewellery, shares, debentures, and other valuable items. This minimizes the risk of loss due to theft at homes. Banks are not responsible for the items in the lockers.
(ii) Issuing Traveler’s Cheques: Banks issue traveler’s cheques to individuals for traveling outside the country. Traveler’s cheques are the safe and easy way to protect money while traveling.
(iii) Dealing in Foreign Exchange: Commercial banks help in providing foreign exchange to businessmen dealing in exports and imports. However, commercial banks need to take the permission of the Central Bank for dealing in foreign exchange.
3. Transferring Funds: It refers to transferring of funds from one bank to another. Funds are transferred by means of draft, telephonic transfer, and electronic transfer.
4. Letter of Credit: Commercial banks issue letters of credit to their customers to certify their creditworthiness.
(i) Underwriting Securities: Commercial banks also undertake the task of underwriting securities. The public do not hesitate in buying the securities underwritten by banks.
(ii) Electronic Banking: It includes services, such as debit cards, credit cards, and Internet banking.
(C) Other Functions:
(i) Money Supply:
Commercial banks help in increasing money supply. For instance, a bank lends Rs. 5 lakh to an individual and opens a demand deposit in the name of that individual. Bank makes a credit entry of Rs. 5 lakh in that account. This leads to creation of demand deposits in that account. Without printing additional money, the supply of money is increased.
(ii) Credit Creation:
Credit Creation means the multiplication of loans and advances. Commercial banks receive deposits from the public and use these deposits to give loans. However, loans offered are many times more than the deposits received by banks. This function of banks is known as ‘Credit Creation’.
(iii) Collection of Statistics:
Banks collect and publish statistics relating to trade, commerce and industry. Hence, they advice customers and the public authorities on financial matters.
37.Describe the functions of Reserve Bank of India.
Answer: The functions of the Reserve Bank of India are as follows:
1. Monetary Authority: It controls the supply of money in the economy to stabilize exchange rate, maintain healthy balance of payment, attain financial stability, control inflation, and strengthen the banking system.
2. The issuer of currency: The objective is to maintain the currency and credit system of the country. It is the sole authority to issue currency. It also takes action to control the circulation of fake currency.
3. The issuer of Banking License: Every bank has to obtain a banking license from RBI to conduct banking business in India.
4. Banker to the Government: It acts as banker both to the central and the state governments. It provides short term credit. It manages all new issues of government loans. It services the government debt outstanding and nurtures the market for government securities. It advises the government on banking and financial subjects.
5. Banker’s Bank: RBI is the bank of all banks in India as it provides loan to banks, accepts the deposit of banks, and rediscount the bills of banks.
6. Lender of last resort: Banks can borrow from the RBI by keeping eligible securities as collateral at the time of need or crisis.
7. Acts as clearing house: For settlement of banking transactions, RBI manages 14 clearing houses. It facilitates the exchange of instruments and processing of payment instructions.
8. Custodian of foreign exchange reserves: It acts as a custodian of FOREX. It administers and enforces the provision of Foreign Exchange Management Act (FEMA), 1999. RBI buys and sells foreign currency to maintain the exchange rate of Indian rupee v/s foreign currencies.
9. Regulator of Economy: It controls the money supply in the system, monitors different key indicators like GDP, Inflation, etc.
10. Managing Government securities: RBI administers investments in institutions when they invest specified minimum proportions of their total assets/liabilities in government securities.
11. Regulator and Supervisor of Payment and Settlement Systems: The Payment and Settlement Systems Act of 2007 (PSS Act) gives RBI oversight authority for the payment and settlement systems in the country. RBI focuses on the development and functioning of safe, secure and efficient payment and settlement mechanisms.
12. Developmental Role: This role includes the development of the quality banking system in India and ensuring that credit is available to the productive sectors of the economy. It provides a wide range of promotional functions to support national objectives. It includes establishing institutions designed to build the country’s financial infrastructure. It helps in expanding access to affordable financial services and promoting financial education and literacy.
13. Publisher of monetary data and other data: RBI maintains and provides all essential banking and other economic data. It formulates and critically evaluates the economic policies in India. RBI collects, collates and publishes data regularly.
14. Exchange manager and controller: RBI represents India as a member of the International Monetary Fund [IMF]. Most of the commercial banks are authorized dealers of RBI.
15. Banking Ombudsman Scheme: RBI introduced the Banking Ombudsman Scheme in 1995. Under this scheme, the complainants can file their complaints in any form and can also appeal to the Ombudsman against the awards and the other decisions of the Banks.
16. Banking Codes and Standards Board of India: To measure the performance of banks against Codes and standards based on established global practices, the RBI has set up the Banking Codes and Standards Board of India (BCSBI).
38. What are the objectives of Monetary Policy? Explain.
Answer: Monetary Policy is the macro-economic policy laid down by the Central Bank towards the management of money supply and interest rate. The objectives of monetary policy are:
1. Neutrality of Money
Economists like Wicksteed, Hayek and Robertson are the chief exponents of neutral money. They hold the view that monetary authority should aim at neutrality of money in the economy.
Monetary changes could be the root cause of all economic fluctuations. According to neutralists, the monetary change causes distortion and disturbances in the proper operation of the economic system of the country.
2. Exchange Rate Stability
Exchange rate stability was the main objective under Gold Standard among different countries. When there was disequilibrium in the balance of payments of the country, it was automatically corrected by movements. It was popularly known as “Expand Currency and Credit when gold is coming in; contract currency and credit when gold is going out.” If there is instability in the exchange rates, it will result in outflow or inflow of gold resulting in unfavorable balance of payments.
3. Price Stability
Economists like Crustave Cassel and Keynes suggested price stabilization as a main objective of monetary policy. Stable prices repose public confidence. It promotes business activity and ensures equitable distribution of income and wealth. As a result, there is general wave of prosperity and welfare in the community.
Price stability does not mean ‘price rigidity’ or price stagnation’. A mild increase in the price level provides a tonic for economic growth. It keeps all virtues of a stable price.
4. Full Employment
During world depression, the problem of unemployment had increased rapidly. It was regarded as socially dangerous, economically wasteful and morally deplorable. Thus, full employment was considered as the main goal of monetary policy.
5. Economic Growth
Economic growth is the process where the real per capita income of a country increases over a long period of time. It implies an increase in the real output, production of goods for the satisfaction of human wants.
Therefore, monetary policy should promote sustained and continuous economic growth by maintaining equilibrium between the total demand for money and total production capacity. It should also create favourable conditions for saving and investment.
6. Equilibrium in the Balance of Payments
Equilibrium in the balance of payments is another objective of monetary policy. This is due to the problem of international liquidity on account of the growth of world trade at a more faster speed than the world liquidity.
Increasing deficit in the balance of payments reduces the ability of an economy to achieve other objectives. As a result, many less developed countries have to curtail their imports which adversely affects development activities.
Therefore, monetary authority makes efforts to maintain equilibrium in the balance of payments.
If you have any questions or doubts on this topic, let us know in the comments section.
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