Banking: NBSE Class 12 Economics questions, answers

Banking nbse class 12
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Here, you will find summaries, questions, answers, textbook solutions, pdf, extras etc. of (Nagaland Board) NBSE Class 12 (Arts/Commerce) Economics Chapter 8: Banking. These solutions, however, should be only treated as references and can be modified/changed.

Introduction

Banking plays a pivotal role in a country’s economy. Banks act as financial intermediaries that accept deposits from savers and channel these funds as loans to borrowers. This facilitates business activity and capital formation. Some key functions performed by banks include accepting deposits, advancing loans, discounting bills, and providing payment services. Banks create money through credit creation which expands the money supply.

Banks provide multiple services like overdraft facilities, remittances, locker facilities etc. They also act as agents for customers for activities like tax payments and insurance premium collection. Thus banks promote trade, commerce and economic growth by facilitating financial transactions.

Banks have a two-tier structure consisting of commercial banks and the central bank. Commercial banks deal directly with the public for banking business. The central bank regulates the banking system and controls money supply. It issues currency, acts as banker and lender to the government and commercial banks.

The central bank uses policy rates, reserve ratios and open market operations as instruments to regulate credit and money supply. It holds the foreign exchange and gold reserves of the country. The central bank oversees the stability of the currency and banking system.

Textual questions and answers

A. Very short-answer questions (answer in one word/one sentence)

1. What is a commercial bank?

Answer: A commercial bank is a financial institution which performs the functions of accepting deposits from the general public and giving loans for investment with the aim of earning profit.

2. Define a Central Bank.

Answer: The Central Bank is the apex institution of monetary and banking system of a country.

3. Define primary deposits.

Answer: Primary deposits are new(initial) deposits in cash by people.

4. What are secondary deposits?

Answer: Secondary deposits are deposits which arise on account of loans given by the bank.

5. What are the functions of a Commercial Bank?

Answer: The functions of a Commercial Bank are acceptance of deposits, advancing loans, discounting bills of exchange, overdraft facility, agency function, performing general utility services and credit creation.

6. Define credit.

Answer: Credit is purchasing power extended by a creditor to a debtor.

7. What is credit creation?

Answer: Credit creation is the process by which commercial banks create money (credit) by giving loans, mainly in the form of demand deposits.

8. What is money multiplier?

Answer: Money multiplier is the multiple by which total deposit increases due to initial (primary) deposit.

B. Short-answer questions-I (answer in 30-50 words)

1. What are the functions of a commercial bank?

Answer: The functions of a commercial bank are acceptance of deposits, advancing loans, discounting bills of exchange, overdraft facility, agency functions like transfer of funds, collection of funds, payments of bills etc., performing general utility services and credit creation.

2. What are the “general utility” services of a bank?

Answer: The “general utility” services provided by a bank include:

  • Traveller’s cheques. Banks issue traveller’s cheques and gift cheques. 
  • Locker facility. Customers can keep their ornaments and important documents in lockers for safe custody. 
  • Underwriting securities issued by government, public or private bodies. 
  • Purchase and sale of foreign exchange (currency).

3. Explain the discounting bills of exchange function of a bank.

Answer: A bill ofexchange represents a promise to pay afixed amount ofmoney at a specific point of time in future. It can also be encashed earlier through discounting process of a commercial bank. It is a paper asset signed by the debtor and the creditor for a fixed amount payable on a fixed date.

4. What is the role of money multiplier in credit creation?

Answer: The money multiplier is the multiple by which total deposits increase due to an initial deposit. It plays a crucial role in credit creation by determining how much new credit a bank can generate based on its reserve requirements. Specifically, if the Legal Reserve Ratio (LRR) is 10%, the money multiplier would be 1/10 = 10. This means the bank can create credit that is 10 times the initial deposit.

5. What are primary deposits of a bank?

Answer: Primary deposits are new (initial) deposits in cash by people. Indirectly, primary deposits reflect savings of people in banks.

6. How is credit creation related to LRR?

Answer: Credit creation by commercial banks is determined by two factors: (i) the amount of initial (primary) deposits and (ii) the Legal Reserve Ratio (LRR), which is the minimum ratio of deposits that is legally compulsory for commercial banks to keep as cash or in liquid form. When a bank receives cash deposits, it keeps a fraction as cash reserve (LRR) and uses the remaining amount for giving loans. In the process, banks create money (credit) through secondary deposits many times more than the initial deposits. The money multiplier, which quantifies the total credit created, is the inverse of the LRR.

C. Short-answer questions-II (answer in 60-80 words)

1. “Currency is issued by the Central Bank yet we say that commercial banks create money.” Explain. How is this money creation by commercial banks likely to affect national income?

Answer: While the Central Bank has the monopoly of issuing currency, commercial banks create money through the process of credit creation. When commercial banks give loans, they create demand deposits, effectively increasing the money supply. This is known as credit creation.

As for its impact on national income, increased money creation by commercial banks leads to more loans and investments. Higher investment levels can stimulate economic activity and raise national income through the multiplier effect.

2. Reserve Bank of India has reduced CRR from 4.25% to 4%. Will this step help control inflation in India? Name any one value violated in the question.

Answer: Reducing the Cash Reserve Ratio (CRR) from 4.25% to 4% is unlikely to help control inflation. Lowering the CRR releases more funds for commercial banks to lend. As lending increases, money creation in the economy expands, thus increasing the money supply. An increase in the money supply could potentially fuel inflation rather than control it.

As for the value violated in the question, it could be argued that the question assumes that reducing the CRR would control inflation, which is misleading.

3. Can low interest rates benefit the government? If yes, how?

Answer: Low interest rates can benefit the government in several ways. Firstly, they reduce the cost of borrowing, making it cheaper for the government to finance public projects and manage its debt. Secondly, low interest rates can stimulate economic activity by encouraging consumer spending and business investment. This can lead to higher tax revenues for the government. Lastly, increased economic activity can improve employment rates, reducing the need for government spending on social welfare programs. Overall, low interest rates can contribute to a healthier fiscal position for the government.

4. What is the difference between demand deposits and time deposits?

Answer: The difference between demand deposits and time deposits is as follows:

Demand Deposits: Deposits which can be withdrawn on demand by depositors by issuing cheques are called demand deposits. For example, current account deposits and savings account deposits are demand deposits because they are payable on demand. No interest is paid on current deposits. They are highly liquid and are a part of the money supply.

Time Deposits: Time deposits (also called fixed deposits or term deposits) are deposits kept with the bank for a fixed period and can be withdrawn only after the expiry of the specified period. These are non-chequable and are not payable on demand. They carry interest that varies directly with the period of time and are less liquid.

5. Explain the meaning of credit creation.

Answer: Credit creation refers to the process by which commercial banks increase the money supply in the economy through lending activities. When a person deposits money in a bank, the bank is required to keep only a fraction of it as cash reserve based on the Legal Reserve Ratio (LRR) and is free to lend the remaining amount. For example, if a man deposits Rs.2,000 and the LRR is 10%, the bank keeps Rs.200 as cash reserve and lends Rs.1,800. This loan is not given in cash but is credited to a demand deposit account in the borrower’s name. This is the first round of credit creation. The process continues, leading to the creation of new demand deposits, which are a part of the money supply.

6. State the functions of the Central Bank.

Answer: The functions of the Central Bank are as follows:

Issuer of Currency: The Central Bank has the monopoly of issuing currency to secure control over the volume of currency and credit. It issues currency on the basis of the Minimum Reserve System.

Banker to Government: It functions as a banker to the government, providing banking facilities similar to what commercial banks offer to the public.

Banker’s Bank: The Central Bank acts as a source of great strength to the banking system, providing loans and discounting trade bills for member banks.

Controller of Credit and Money Supply: It controls credit and money supply through its monetary policy, aiming for price stability and full employment.

Exchange Control: It stabilizes the external value of the national currency and acts as the custodian of foreign exchange reserves.

Lender of Last Resort: The Central Bank provides temporary financial accommodation to save the financial structure of the country from collapse.

Custodian of Foreign Exchange Reserves: It keeps a certain minimum amount of gold and foreign currency against note issue and to meet emergency requirements of foreign exchange.

Clearing House Function: It acts as a clearing house for its member banks, providing facilities for banks to come together every day and set off their chequing claims without physical movement of cash.

Collection and Publication of Data: It collects and publishes financial and economic data.

7. What are open market operations?

Answer: These refer to buying and selling of government securities by the Central Bank to the public and banks. This is done to influence money supply in the country. Mind, sale of government securities to commercial banks means flow of money into the Central Bank which reduces cash reserves. Consequently, credit availability of commercial banks is curtailed/ controlled. When the Central Bank buys securities, it increases cash reserves of the banks and their ability to give credit.

D. Long-answer questions-I (answer in 90-120 words)

1. What is a commercial bank? State the functions of a commercial bank?

Answer: A commercial bank is a financial institution that performs the functions of accepting deposits from the general public and giving loans for investment with the aim of earning profit. In essence, commercial banks are profit-seeking institutions that generally finance trade and commerce with short-term loans. They charge a high rate of interest from borrowers but pay much less rate of interest to their depositors.

Functions of Commercial Banks:

  • Acceptance of Deposits: They accept deposits in the form of current, savings, and fixed deposits.
  • Advancing Loans: They provide various types of loans to individuals and businesses.
  • Discounting Bills of Exchange: They discount trade bills for their customers.
  • Overdraft Facility: They provide overdraft facilities to current account holders.
  • Agency Functions: They act as agents for their customers for various financial activities.
  • General Utility Services: They provide various general utility services like locker facilities, money transfer, etc.
  • Credit Creation: They have the ability to create credit based on the deposits they receive.

2. What is a Central bank? What are the functions of a Central bank?

Answer: The Central Bank is the apex institution of the monetary and banking system of a country. Its primary role is to control, supervise, regulate, and organize the financial and the monetary system of the economy.

Functions of a Central Bank: Issue of Currency/Bank of Issue: The Central Bank is given the monopoly of issuing currency in order to secure control over the volume of currency and credit.

Banker to Government: The Central Bank functions as a banker to the government. It accepts deposits from the government and gives loans to the government. It also manages the public debt of the country.

Banker’s Bank and Supervisor: The Central Bank acts as a banker’s bank. It is the custodian of the cash reserves of commercial banks and is the lender of the last resort to them.

Controller of Credit and Money Supply: The Central Bank controls credit and money supply through its monetary policy.

Custodian of Foreign Exchange Reserves: The Central Bank functions as the custodian of the country’s foreign exchange reserves.

Clearing House Function: The Central Bank acts as a Clearing House for its member banks.

Collection and Publication of Data: The Central Bank has also been entrusted with the task of collecting and publishing data.

3. State and explain the instruments of money policy.

Answer: The instruments of Money Policy are:

Repo Rate: This is the rate of interest at which the Central Bank lends funds to commercial banks. It is, in a way, the cost of borrowing. Cheap credit promotes investment, whereas dear money discourages it. In a situation of excess demand and inflationary pressure, the Central Bank increases the repo rate. High bank rate forces the commercial banks to raise, in turn, the rate of interest, which makes credit dear. A decrease in repo rate will have the opposite effect. 

Open Market Operations: These refer to the buying and selling of government securities by the Central Bank to the public and banks. Sale of government securities to commercial banks means the flow of money into the Central Bank, which reduces cash reserves. When the Central Bank buys securities, it increases cash reserves of the banks and their ability to give credit.

Cash Reserve Ratio (CRR):  Commercial banks are required under the law to keep a certain percentage (ratio) of their total deposits with the Central Bank in the form of cash reserves. This ratio is called CRR. It is a powerful instrument to control credit and lending capacity of the banks.

4. How does a Central bank act as a ‘lender of the last resort’?

Answer: In times of emergency when commercial banks fail to meet the obligations of their depositors due to a liquidity crisis, they approach the Central Bank as the last resort for getting loans. As the lender of the last resort, the Central Bank guarantees solvency and provides financial accommodation to commercial banks in two ways:

  • By rediscounting their eligible securities and bills of exchange.
  • By providing loans against their securities.

This role of the Central Bank saves banks from possible failure and protects the banking system from a possible breakdown.

5. State any five functions of a Central bank.

Answer: the following five functions of a Central Bank:

Issue of Currency/Bank of Issue: The Central Bank is given the monopoly of issuing currency in order to secure control over the volume of currency and credit.

Banker to Government: The Central Bank functions as a banker to the government. It accepts deposits from the government and gives loans to the government. It also manages the public debt of the country.

Banker’s Bank and Supervisor: The Central Bank acts as a banker’s bank. It is the custodian of the cash reserves of commercial banks and is the lender of the last resort to them.

Custodian of Foreign Exchange Reserves (Forex): The Central Bank functions as the custodian of the country’s foreign exchange reserves. It is responsible for stabilizing the external value of the national currency.

Clearing House Function: The Central Bank acts as a Clearing House for its member banks. It provides clearing facilities for banks to come together every day and set off their chequing claims without physical movement of cash.

6. How Central bank is different from a commercial bank?

Answer: The Central Bank serves as the apex institution in the money market of a country. Its primary aim is to focus on general public welfare rather than profit-making. It has the exclusive right to issue currency notes and does not deal directly with the public. The Central Bank also acts as a banker to the government, managing its accounts and providing loans. Moreover, it is responsible for deciding the country’s monetary policy with the aim of achieving economic stability and full employment. Additionally, the Central Bank acts as the custodian of the nation’s gold and foreign exchange reserves.

On the other hand, a Commercial Bank is just a unit within the broader banking structure of the country. Unlike the Central Bank, it does not have a responsibility towards the state’s welfare. Commercial Banks are often regulated by the Central Bank and play a supplementary role in the financial system. They deal directly with the public and business firms, offering services like accepting deposits and providing loans. Unlike the Central Bank, Commercial Banks do not have the function of acting as a banker to the government.

E. Long-answer questions-II (answer in 130-200 words)

1. Explain the functions of commercial banks.

Answer: The primary functions of commercial banks include:

Acceptance of Deposits: Commercial banks accept deposits in various forms such as current, savings, and fixed deposits. They collect surplus balances from individuals and firms, thereby serving as a repository for public savings.

Advancing Loans: Banks provide loans for various purposes, including business investment and personal needs. They charge interest on these loans, which is a primary source of their revenue.

Discounting Bills of Exchange: Commercial banks discount bills of exchange, providing immediate cash to businesses and thereby facilitating trade.

Overdraft Facility: Banks offer overdraft facilities that allow customers to withdraw more money than they have in their accounts, up to a certain limit.

Agency Function: Banks act as agents for their customers, performing tasks like collecting payments, paying bills, and transferring money.

Performing General Utility Services: Banks offer various utility services such as issuing traveler’s checks, providing safe deposit lockers, and facilitating money transfers.

2. What is credit creation? Explain the process of credit creation with an example.

Answer: Credit creation is a unique function performed by commercial banks that allows them to increase the supply of money in the economy. The process of credit creation is determined by two factors: (i) Primary deposits, which are the initial cash deposits made by the public, and (ii) Legal Reserve Ratio (LRR), the minimum ratio of deposits that banks are legally required to keep in cash or liquid form.

Example:

Suppose a man, say X, deposits ₹2,000 with a bank and the LRR is 10%. The bank is required to keep only ₹200 as a cash reserve (LRR) and is free to lend the remaining ₹1,800. The loan is not given in cash but is redeposited in the bank as a demand deposit in favor of a borrower. In this case, the bank lends ₹1,800 to another individual, say Y. A demand deposit account is opened in Y’s name, and the loan amount is credited to his account. This is the first round of credit creation in the form of a demand deposit of ₹1,800.

The bank then keeps 10% of Y’s deposit (₹180) as a cash reserve and is free to lend the remaining ₹1,620 to another individual, say Z. This is the second round of credit creation. The process continues, each time retaining a fraction as a reserve and lending out the rest, until the derivative deposit becomes zero.

In the end, the total volume of credit created becomes a multiple of the initial deposit, a phenomenon known as the money multiplier. For example, if the bank succeeds in creating a total credit of ₹18,000, it means the bank has created nine times the initial deposit of ₹2,000.

3. What is the role of a Central bank in the banking process?

Answer: The role of a Central bank in the banking process are:

Banker’s Bank and Supervisor: The Central Bank is the custodian of the cash reserves of commercial banks. Banks are required to keep a certain percentage of their deposits with the Central Bank. It also acts as a supervisor to regulate and ensure the proper functioning of commercial banks.

Lender of the Last Resort: In times of emergency, when commercial banks face a liquidity crisis and fail to meet the obligations of their depositors, they can approach the Central Bank for loans. The Central Bank guarantees solvency and provides financial accommodation to commercial banks by rediscounting their eligible securities and bills of exchange.

Controller of Credit and Money Supply: The Central Bank controls the credit and money supply through its monetary policy. It adopts various measures like changing the Repo Rate to influence the lending capacity of commercial banks. For instance, in a situation of excess demand and inflationary pressure, the Central Bank may increase the repo rate to discourage borrowing.

Custodian of Foreign Exchange Reserves: The Central Bank is responsible for stabilizing the external value of the national currency and acts as the custodian of the country’s foreign exchange reserves.

Government’s Bank: The Central Bank accepts deposits from the government, gives loans to the government, and manages the public debt. It maintains the accounts of the government and carries out all its banking business.

Clearing House Function: The Central Bank acts as a clearing house for its member banks, providing facilities for banks to come together every day and set off their chequing claims without the physical movement of cash.

4. Discuss the functions of the Central bank.

Answer: The main functions of the Central Bank are as follows:

Issuer of Currency: The Central Bank has the monopoly of issuing notes, except for one-rupee notes, one-rupee coins, and small coins issued by the government. This allows it to control the volume of currency in circulation.

Banker to Government: The Central Bank accepts deposits from the government, gives loans to the government, and manages the public debt. It also carries out exchange, remittance, and other banking operations on behalf of the government.

Banker’s Bank and Supervisor: The Central Bank acts as the custodian of the cash reserves of commercial banks and supervises their functioning. Banks are required to keep a certain percentage of their deposits with the Central Bank.

Controller of Credit and Money Supply: Through its monetary policy, the Central Bank controls credit and money supply. It adopts both quantitative and qualitative measures, such as changing the Repo Rate, to influence the lending capacity of commercial banks.

Exchange Control: The Central Bank is responsible for maintaining the external value of the national currency. It adopts measures like exchange control systems to achieve this objective.

Lender of the Last Resort: In times of emergency, the Central Bank provides financial accommodation to commercial banks by rediscounting their eligible securities and bills of exchange.

Custodian of Foreign Exchange Reserves: The Central Bank holds the country’s foreign exchange reserves and takes steps to stabilize the external value of the national currency.

Clearing House Function: The Central Bank acts as a clearing house for its member banks, facilitating the settlement of cheques without the physical movement of cash.

Additional/extra questions and answers

1. What is a commercial bank?

Answer: A commercial bank is a financial institution which performs the functions of accepting deposits from the general public and giving loans for investment with the aim of earning profit.

2. Define a Central Bank.

Answer: The Central Bank is the apex institution of monetary and banking system of a country.

3. Define primary deposits.

Answer: Primary deposits are new(initial) deposits in cash by people.

4. What are secondary deposits?

Answer: Secondary deposits are deposits which arise on account of loans given by the bank.

5. What are the functions of a Commercial Bank?

Answer: The main functions of a Commercial Bank are acceptance of deposits, advancing loans, discounting bills of exchange, overdraft facility, agency functions, performing general utility services and credit creation.

6. Define credit.

Answer: Credit refers to an agreement in which a borrower receives something of value now and agrees to repay the lender at some date in the future.

7. What is credit creation?

Answer: Credit creation is the process by which commercial banks create money (credit) through secondary deposits (demand deposits) many times more than initial deposits (primary deposits).

8. What is money multiplier?

Answer: Money multiplier is the multiple by which total deposit increases due to initial (primary) deposit.

9. What is LRR?

Answer: LRR stands for Legal Reserve Ratio which is the minimum ratio of deposits which banks are legally required to keep as reserves.

10. What are demand deposits?

Answer: Demand deposits are deposits which can be withdrawn on demand by depositors by issuing cheques.

11. What are time deposits?

Answer: Time deposits are deposits kept with the bank for a fixed period and can be withdrawn only after the expiry of the specified period.

12. What is overdraft facility?

Answer: Overdraft facility allows a customer keeping current account to overdraw his account up to an agreed limit.

13. What is a bill of exchange?

Answer: A bill of exchange represents a promise to pay a fixed amount of money at a specific point of time in future.

14. What are open market operations?

Answer: Open market operations refer to buying and selling of government securities by the Central Bank to influence money supply.

15. What is CRR?

Answer: CRR or Cash Reserve Ratio is the ratio of total deposits commercial banks are required to keep with the Central Bank as reserves.

16. What is bank rate?

Answer: Bank rate is the rate of interest at which the Central Bank lends to commercial banks.

17. What is repo rate?

Answer: Repo rate is the rate at which the Central Bank lends funds to commercial banks.

18. What is a clearing house?

Answer: The Central Bank provides clearing facilities to banks for setting off their mutual claims without physical movement of cash.

19. What is a lender of last resort?

Answer: The Central Bank acts as a lender of last resort by providing temporary financial accommodation to commercial banks in times of crisis.

20. What are foreign exchange reserves?

Answer: The Central Bank functions as custodian of the country’s foreign exchange reserves.

21. What are the functions of a commercial bank?

Answer: The main functions of a commercial bank are acceptance of deposits, advancing loans, discounting bills of exchange, overdraft facility, agency functions, performing general utility services and credit creation.

22. What are the “general utility” services provided by a bank?

Answer: Banks provide a wide range of general utility services to customers apart from core banking functions. These include issuance of traveller’s cheques and gift cheques to facilitate easy and secure money transactions for travels. Banks also provide locker facilities where customers can keep their valuables, important documents and other precious items in safe custody by paying a nominal rent. Many banks also undertake underwriting of securities issued by government, public sector or private bodies to mobilize funds for development projects. Banks also deal in purchase and sale of foreign currencies, enabling customers to get foreign exchange needed for education, travel, medical treatment etc. easily. Some banks also facilitate payment of various bills like insurance premiums, electricity bills etc. on behalf of customers.

23. Explain discounting of bills of exchange by banks.

Answer: A bill of exchange represents a promise to pay a fixed amount of money at a specific point of time in future. It can be encashed earlier through discounting process of a commercial bank.

24. What is the role of money multiplier in credit creation?

Answer: Money multiplier determines the total credit creation by commercial banks based on the initial deposits and legal reserve ratio. It is the multiple by which total deposit increases due to initial (primary) deposit.

25. What are primary deposits of a bank?

Answer: Primary deposits are new (initial) deposits in cash by people. Indirectly primary deposits reflect savings of people in banks.

26. How is credit creation related to LRR?

Answer: Credit creation by banks is determined by the amount of initial (primary) deposits and LRR (Legal Reserve Ratio). The lower the LRR, the higher the credit creation through money multiplier.

27. Differentiate between demand deposits and time deposits.

Answer: Demand deposits can be withdrawn on demand, don’t carry interest and are part of money supply. Time deposits are kept for fixed period, carry interest but are not part of money supply.

28. What are the quantitative measures of credit control?

Answer: The quantitative measures of credit control are Bank Rate, Repo Rate, Reserve Requirements (CRR, SLR) and Open Market Operations.

29. What are the agency functions performed by banks?

Answer: Agency functions include transfer of funds, collection of funds, making payments for taxes/insurance/bills as per customer directions, collection of dividends/interest on shares/debentures etc.

30. How does CRR help control credit and money supply?

Answer: Higher CRR reduces lendable resources of banks, thereby controlling credit expansion and money supply. Lower CRR raises lendable resources, leading to credit expansion.

31. Can low interest rates benefit the government? If yes, how?

Answer: Yes, low interest rates can benefit the government. When interest rates are low, cost of borrowing for the government is less. The government can borrow larger amounts at lower rate of interest and spend on development projects to boost growth.

32. What is the difference between demand deposits and time deposits?

Answer: Demand deposits can be withdrawn on demand, don’t carry interest and are part of money supply. Time deposits are kept for fixed period, carry interest but are not part of money supply.

33. Explain the meaning of credit creation by commercial banks.

Answer: Credit creation refers to the unique money creating ability of commercial banks, over and above the currency issued by the Central Bank. Banks create credit or money in the economy by giving out loans, based on the fraction of deposits they mobilize from the public. When deposits are made by customers, banks keep only a small portion (governed by reserve ratios set by the Central Bank) as cash reserves and lend out the major portion. The loans are given out not by disbursing cash but by opening demand deposit accounts in the borrowers’ names. This leads to creation of new demand deposits in the economy which act as money. In this way, banks create new money in the economy multiple times over the initial deposits, by keeping lesser reserves and lending more. This credit creation function of banks has a significant impact on the economy.

34. State the functions of the Central Bank.

Answer: The main functions of a Central Bank are – issuer of currency, banker to government, banker’s bank, controller of credit and money supply, exchange control, lender of last resort, custodian of foreign exchange reserves, clearing house and collection/publication of data.

35. What are open market operations by the Central Bank?

Answer: Open market operations refer to buying and selling of government securities by the Central Bank to influence money supply. Sale of securities reduces money supply while purchase of securities increases it.

36. How does the Central Bank act as banker’s bank?

Answer: As banker’s bank, the Central Bank acts as custodian of cash reserves, lender of last resort and clearing house for commercial banks. It supervises functioning of banks.

37. Explain the instruments of credit control used by the Central Bank.

Answer: The Central Bank uses quantitative tools like Bank Rate, Repo Rate, Cash Reserve Ratio, Statutory Liquidity Ratio and Open Market Operations along with qualitative tools like margins, rationing of credit, publicity etc. to control credit.

38. How does a Central Bank act as a ‘lender of last resort’?

Answer: As lender of last resort, the Central Bank provides financial help to commercial banks facing liquidity crisis by rediscounting eligible securities, providing loans against securities and preventing the collapse of the banking system.

Additional/extra MCQs

1. What is a commercial bank?

A. A financial institution that mobilizes savings B. An institution that trades in commodities C. A financial institution that accepts deposits and provides loans D. A charitable institution

Answer: C

2. What is the main source of income for commercial banks?

A. Interest on loans B. Interest on deposits C. Fees for services D. Trading income

Answer: A

3. Which of the following is NOT a function of commercial banks?

A. Accepting deposits B. Advancing loans C. Issuing currency notes D. Discounting bills

Answer: C

4. Demand deposits refer to?

A. Deposits that can be withdrawn anytime B. Deposits that carry fixed tenure C. Deposits that don’t carry any interest D. Savings bank deposits

Answer: A

5. Time deposits are?

A. Highly liquid deposits B. Deposits for a fixed period C. Demand deposits D. Zero balance deposits

Answer: B

6. Credit creation depends on?

A. The size of primary deposits B. The applicable LRR C. Both primary deposits and LRR D. The central bank’s directives

Answer: C

7. What is the main function of a Central Bank?

A. Accepting deposits from public B. Granting loans and advances C. Clearing and settlements D. Formulating monetary policy

Answer: D

8. Who issues currency notes in India?

A. RBI B. Commercial banks C. Ministry of Finance D. Security Printing Press

Answer: A

9. The deposit kept by banks with the central bank is called?

A. Cash deposit ratio B. Statutory liquidity ratio C. Legal reserve ratio D. Cash reserve ratio

Answer: D

10. Open market operations refer to?

A. Borrowing by the government B. Lending to corporate sector C. Purchase and sale of government securities D. Transactions done after banking hours

Answer: C

11. Bank rate is?

A. Rate charged by banks from borrowers B. Interest paid by banks to depositors C. Repo rate set by the central bank D. Rate at which central bank lends to banks

Answer: D

12. Commercial banks create credit through?

A. Currency issue B. Demand deposits C. Gold reserves D. Fixed deposits

Answer: B

13. Statutory Liquidity Ratio applies to?

A. Deposits of the public B. Government C. RBI credit to banks D. Deposits of banks with RBI

Answer: A

14. Monthly policy announcements are related to?

A. Repo rate B. Reverse repo rate C. Interest rates D. CRR

Answer: C

15. Minimum reserves are kept by banks in the form of?

A. Gold B. Cash C. Government securities D. All of the above

Answer: D

16. Credit control aims at?

A. Rationing of credit B. Ensuring adequate credit C. Maximising bank profits D. Minimising NPAs

Answer: B

17. The Central Bank acts as lender of last resort to?

A. Government B. Commercial banks C. Public sector D. Stock exchanges

Answer: B

18. Demand deposits are a part of?

A. Budget B. Money supply C. Bank funds D. Time deposits

Answer: B

19. The CRR stipulated by RBI is currently?

A. 5% B. 3% C. 4% D. 2%

Answer: C

20. Repo rate is used for?

A. Medium term lending by RBI B. Short term lending by RBI C. Government borrowing from RBI D. Managing foreign exchange

Answer: B

21. The main role of the central bank is to?

A. Minimise risk B. Maximise profits C. Control inflation D. Print currency

Answer: C

22. Clearing houses facilitate?

A. Inter-bank cheque clearance B. Loan processing C. Gold trading D. Borrowing transactions

Answer: A

23. The central bank is the custodian of?

A. Small coins B. Public debt C. Foreign exchange reserves D. Public sector bonds

Answer: C

24. The central bank is exempt from?

A. CRR B. SLR C. RBI directives D. Bank rate

Answer: C

25. Banker’s bank refers to central bank’s role as?

A. Custodian B. Liquidity provider C. Regulator D. Policy maker

Answer: B

26. Time deposits of a bank are?

A. Loans given out B. Fixed deposits C. Demand deposits D. Savings deposits

Answer: B

27. Primary deposits of a bank indicate?

A. Borrowings B. Own capital C. Deposits of public D. Deposits of other banks

Answer: C

28. The main function of commercial banks is to?

A. Create wealth B. Lend funds C. Generate employment D. Issue currency

Answer: B

29. Bank rate is decided by?

A. RBI B. Commercial banks C. Ministry of Finance D. NABARD

Answer: A

30. Banks create credit through?

A. Overdrafts B. Demand deposits C. Fixed deposits D. Repo transactions

Answer: B

31. The central bank acts as the banker to?

A. Commercial banks B. Government C. Public sector D. Foreign banks

Answer: B

32. Demand deposits can be converted into cash?

A. On demand B. After maturity period C. By paying penalty D. After 2 months

Answer: A

33. The objective behind SLR is?

A. Liquidity management B. Risk management C. Treasury management D. Asset management

Answer: A

34. Interest rates are used by the central bank for?

A. Managing budgetary deficit B. Open market operations C. Credit control D. Currency issue

Answer: C

35. Agency services by banks include?

A. Underwriting B. Deposit taking C. Remittances D. Safe deposit

Answer: C

36. Currency issue is a function of?

A. Commercial bank B. Central bank C. Ministry of Finance D. RBI regional office

Answer: B

37. The monetary authority in India is?

A. SBI B. Ministry of Finance C. RBI D. NABARD

Answer: C

38. When repo rate increases, credit?

A. Expands B. Remains constant C. Contracts D. Fluctuates

Answer: C

39. Open market operations are tools of?

A. Fiscal policy B. Monetary policy C. Exchange rate policy D. Interest rate policy

Answer: B

40. The main objective of monetary policy is?

A. Currency stability B. High bank profits C. Price stability D. Job creation

Answer: C

41. Risks of commercial banks are managed by?

A. RBI B. NABARD C. SIDBI D. SEBI

Answer: A

42. Demand deposits offer?

A. High returns B. Fixed tenure C. Liquidity D. Tax benefits

Answer: C

43. Banker’s bank function enables?

A. Remittances B. Clearances C. Currency issue D. Underwriting

Answer: B

44. Credit control aims to?

A. Ration credit supply B. Increase money supply C. Reduce interest rates D. Support small businesses

Answer: A

45. Which function enables international trade settlement?

A. Deposit taking B. Remittances C. Lending D. Underwriting

Answer: B

46. The head office of RBI is located in?

A. New Delhi B. Mumbai C. Kolkata D. Chennai

Answer: B

47. Repo transactions involve?

A. Lending by commercial banks B. Borrowing by the government C. Lending by the central bank D. Borrowing by banks

Answer: D

48. The central bank framing monetary policy aims to?

A. Boost economic growth B. Check inflationary trends C. Manage fiscal deficit D. Reduce interest rates

Answer: B

49. Demand deposits are considered?

A. Inactive deposits B. High cost deposits C. A part of money supply D. Long term deposits

Answer: C

50. The central bank acts as the custodian of?

A. Commercial bank reserves B. Public deposits C. Government accounts D. Foreign exchange reserves

Answer: D

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