The Central Bank and Monetary Policy
NCERT Class 12 • Introductory Macroeconomics • Chapter "Money and Banking" | NCERT Class 10 • Economics • Chapter "Money and Credit"
The Central Bank and Monetary Policy
The central bank is the apex institution of a country's monetary and banking system. In India this role is played by the Reserve Bank of India. It does not deal directly with the public; it works with the government and with banks, and it controls the supply of money and credit in the economy.
Functions of the Central Bank
- Bank of issue — it has the sole right to issue currency notes, which keeps the currency uniform and trusted.
- Banker to the government — it keeps government accounts, makes payments and manages public debt.
- Bankers' bank — commercial banks keep reserves with it and can borrow from it in need.
- Lender of the last resort — it supports a sound bank facing a temporary shortage of funds.
- Custodian of foreign exchange reserves — it holds reserves and manages the external value of the currency.
- Controller of credit — it expands or contracts credit to keep prices and growth in balance.
- Clearing house — it settles claims between banks.
Instruments of Monetary Policy
- Cash reserve ratio is the share of deposits a bank must keep with the central bank; raising it reduces lending capacity.
- Statutory liquidity ratio is the share of deposits a bank must keep in cash, gold or approved securities with itself.
- Repo rate is the rate at which the central bank lends to banks for the short term; raising it makes credit costlier.
- Reverse repo rate is the rate at which the central bank borrows from banks, absorbing surplus funds.
- Open market operations mean buying or selling government securities to inject or absorb money.
- Bank rate is the long term lending rate of the central bank to commercial banks.
- Quantitative tools affect the total volume of credit; qualitative tools such as margin requirements direct credit to chosen uses.
| Instrument | Effect of Raising It |
|---|---|
| Cash reserve ratio | Less money available to lend |
| Repo rate | Borrowing becomes costlier |
| Reverse repo rate | Banks park more funds, lend less |
| Open market sale | Money absorbed from the system |
Lender of the last resort — the central bank's role of providing funds to a sound bank that faces a temporary liquidity crisis.
Hindi me samjhein
रेपो दर वह दर है जिस पर केंद्रीय बैंक बैंकों को अल्पकाल के लिए उधार देता है। रेपो बढ़ने पर ऋण महंगा होता है और मांग घटती है, इसलिए महंगाई नियंत्रित करने में इसका उपयोग होता है।
Exam me kaise aata hai
- Which institution has the sole right to issue notes — the central bank
- The rate at which the central bank lends to banks short term is — repo rate
- Share of deposits kept with the central bank is — cash reserve ratio
- Buying and selling government securities is called — open market operations
UPSC/State PSC ke liye
- Raising the repo rate works by raising the cost of funds for banks, which passes through to lending rates and cools demand with a lag.
- CRR and SLR differ in where the funds are held and in what form, which is why they affect bank balance sheets differently.
Yahan confuse hote hain
✗ The central bank accepts deposits from the public | It deals with the government and banks, not the public | ✓
✗ Raising the repo rate makes credit cheaper | It makes credit costlier | ✓
✗ CRR and SLR are the same | CRR is kept with the central bank; SLR is kept by the bank itself | ✓
Ek nazar me
- The central bank issues notes and is banker to the government and to banks.
- It is the lender of the last resort and controller of credit.
- Tools: CRR, SLR, repo, reverse repo, bank rate, open market operations.
- Raising rates tightens credit; lowering them expands it.