CBSE Class 12 Economics Money And Banking Worksheet

CBSE Class 12 Economics Worksheet - Money and Banking. CBSE issues sample papers every year for students for class 12 board exams. Students should solve the CBSE issued sample papers to understand the pattern of the question paper which will come in class 12 board exams this year. The sample papers have been provided with marking scheme. It’s always recommended to practice as many CBSE sample papers as possible before the board examinations. Sample papers should be always practiced in examination condition at home or school and the student should show the answers to teachers for checking or compare with the answers provided. Students can download the sample papers in pdf format free and score better marks in examinations. Refer to other links too for latest sample papers. 

Important Points for Chapter 3 Money and Banking Class 12 Economics

♦ Definition of Money : Money may be defined as anything which is generally acceptable as a medium of exchange and also acts as common measures of value, store of value and standard of deferred payment.
♦ Money Supply : Total stock of money (currency notes, coins and demand deposits of banks) in circulation are held by the public at a given point of time.
♦ Measures of Money Supply : In India, RBI uses four measures of money supply. These are M1, M2, M3 and M4.
(a) M1 = C + DD + OD (b) M2 = M1 + Saving Deposits with Post Office (c) M3 = M1 + Time Deposits of Public with Banks
(d) M4 = M3 + Total Deposits with the Post Offices. Measures of Money Supply = Currency held by Public + Net Demand Deposit of Banks M = C + DD

♦ Narrow Approach of Money Supply : In narrow sense, we include only liquid assets which are easily acceptable for payments. It includes M1 and M2.
♦ Broad Approach of Money : It refers to currency held by public, demand deposits and time deposits. It includes M3 and M4.
♦ Currency with Public (C) : Currency of a country is issued either by the government or by the Central Bank. It is called Legal Tender Money.
♦ Demand Deposits (DD) : Public deposits with bank which public may withdraw at any time or on demand, bank has to pay it. Other Deposits (OD) : These deposits include:
(i) Demand Deposits of public financial institutions with RBI (ii) Demand Deposits of international financial institutions with RBI
(iii) Demand Deposits of foreign government and central banks with RBI
♦ Time Deposits (TD) : Those deposits of public with bank which can be withdrawn only after completion of that period for which it has been deposited with banks.
♦ Stock of Money : If supply of money is studied at a point of time; it is called Stock of money.
♦ Flow of Money : When supply of money is considered over a period of time; it is called Flow of Money.
♦ High Powered Money or Reserve Money : It is the sum of
(i) Currency held by the public
(ii) Cash reserve of the banks. H = C + R
♦ Factors Affecting Money Supply :
(i) Central Bank,
(ii) Commercial Banks,
(iii) Government,
(iv) Banking Habits of the People,
(v) Velocity of Circulation,
(vi) Volume of Trade and
(vii) Amount of Demand Deposits.
♦ Who Supplies Money : Central Bank of the country. In India, Reserve Bank of India.

♦ Money creation by Commercial Banks: Money creation is a process in which a Commercial Bank creates total
deposits many times the initial deposits.
The capacity of Commercial Bank to create money depends on two factors :
(i) Amount of initial fresh deposit
(ii) Legal Reserve Ratio (LRR) Money Multiplier = 1/LRR
Money Creation = Initial Deposit × Money multiplier. Working : Suppose (i) Initial Deposit = ₹ 1000
(ii) LRR = 20%
As required, the bank keeps 20% i.e., ₹ 200 as cash reserve and lend the remaining ₹ 800. Those who borrow use
the money for making payments. As assumed those who receive these payments put the money back into their
bank accounts. This creates a fresh deposit of ` 800. The bank again keep 20%, i.e., ₹ 160 and lend ₹ 640. In this
way the money goes on multiplying leading to total money creation of ₹ 5000.
Money Creation = Initial Deposit × 1/LRR
= ₹ 1000 × 1/0.2 = ₹ 5000

♦ Central Bank: A Central Bank is an apex institution in the banking structure of the country. It Supervises, controls and regulates the activities of Commercial Banks and acts as a Banker to them. RBI (Reserve Bank of India) is the Central Bank of India.
♦ Functions of RBI Central Bank:
(i) Monopoly of Note Issue/Bank of Issue
(ii) Banker to the Government
(iii) Bankers’ Bank
(iv) Controller of Credit
♦ Monetary Management : It means to regulate money and credit in such a way that it may satisfactorily meet the demand for money needed for trade, business and economic activities.
♦ Methods of Credit Control / Instruments of Monetary Policy : Methods of credit control can be classified into two categories. These are :
(i) Cash Reserve Ratio (CRR) : This refers to the proportion of total deposit of the commercial banks which they must keep as Cash Reserves with Central Bank.
(ii) Statutory Liquidity Ratio (SLR) : This refers to liquid assets of the commercial banks which they must maintain (on daily basis) as a minimum percentage of their total deposits.
(iii) Repo Rate : It is the rate of interest at which the Central Bank gives short-period loan to the commercial banks against security pledged for the loan.
(iv) Reverse Repo Rate : It is the rate of interest at which the Central Bank of a country borrows money from commercial banks.
(v) Bank Rate : It is the rate of interest at which the Central Bank gives loan to the commercial banks without any security to cope with immediate cash crunch.
(vi) Open Market Operations : Open market operations refer to the sale and purchase of securities in the open market by the Central Bank. By selling the securities (like, National Saving Certificates— NSCs), the central bank soaks liquidity (cash) from the economy. And, by buying the securities, the central bank releases liquidity.
(vii) Margin Requirements : Margin Requirement refers to the difference between market value of the securities offered for loans and the amount of loan offered by the commercial banks. It is qualitative method of credit control.

Aggregate demand Short-run equilibrium output;

♦ Aggregate Demand : Aggregate Demand refers to the total demand for all goods and services in the economic system as a whole. This is expressed in terms of total expenditure made in the economy.
♦ Constituents of Aggregate Demand (AD) : In an open economy, constituents of AD are :
(i) Consumption Expenditure
(ii) Investment Expenditure
(iii) Government Expenditure

(iv) Net Exports AD = C+ I + G + (X – M)
♦ Private Consumption Expenditure : The total demand for all goods and services by the household in an economy during an accounting year, is termed as Private Consumption Expenditure. It is determined by the level of personal disposable income of the economy.
♦ Private Investment Expenditure : The expenditure of households and private investor to purchase goods or services that adds to their stock of capital, is termed as Private Investment Expenditure. It is mainly depends on market rate of interest.
♦ Government Expenditure : It includes the total expenditure of government on the purchase of consumption goods and investment expenditure. There is a significant difference between government and private investment. Private investments are done on consideration of profit and termed as Induced Investment.
♦ Autonomous Investment : Government investment expenditure is done on considerations of social welfare like construction of roads, school, dams and flyover are termed as Autonomous Investment.
♦ Aggregate Supply : The concept of aggregate supply is related to the total supply of goods and services made available by all the producers in the economy. It can be expressed in three forms :
(i) Money value of goods and services produced during a year in an economy, i.e., National Income.
(ii) In the form of total income, i.e., consumption + saving.
(iii) In the form of minimum income which the firm will receive as sale proceeds from the sale of goods and services.
♦ Effective Demand : It signifies the point where aggregate demand equals to aggregate supply. Thus, that level where aggregate demand equals aggregate supply is called Effective Demand.
♦ Consumption Function : The relationship between consumption and income is Consumption Function. C = f (Y)
♦ Algebraic Expression of Consumption Function : The algebraic expression of consumption function is given by :

C = C + b(Y).
C = Consumption where,
C = Minimum Level of Consumption at Zero Income.
b = Marginal Propensity to Consume Y = Income

♦ Propensity to Consume : It expresses the consumption levels at different levels of income.
♦ Average Propensity to Consume (APC) : It is the ratio of Consumption Expenditure to any particular level of income.

APC = (C) Consumption/(Y) Income

♦ Marginal Propensity to Consume (MPC) : It is the ratio of a Change in Consumption to a Change in Income.
MPC = Change in Consumption/Change in Income  = ΔC/ΔY
♦ Propensity to Save : It is the ratio of saving to income at different levels of income.
♦ Saving Function : It denotes the relation between saving and income. It shows the desire of savings at various levels of income.
S = f(Y)

♦ Algebraic Expression of Saving Function : The algebraic expression of saving function is given by : where,
S = (– )S + b(Y)
S = Saving
S = Level of saving when Income is Zero
b = Marginal Propensity to Save Y = Income

♦ Average Propensity to Save (APS) : It is the ratio of saving to income.
APS = Saving/Income = S/Y

♦ Marginal Propensity to Save (MPS) : It is the ratio of change in saving to a change in income.
MPS = Change in Saving/Change in Income = ΔS/ΔY

♦ Relationship between Propensity to Save and Propensity to Consume :
MPC + MPS = 1
or MPC = 1 – MPS
or M
PS = 1 – MPC
APC + APS = 1 APC = 1 – APS
APS = 1 – APC

♦ Investment : Investment expenditure includes expenditure for producer’s durable equipment, new construction and the change in inventories.
♦ Induced Investment : It depends upon income and profit in the economy. Investment made with expectation of profit is called induced investment. It depends upon
(i) Marginal efficiency of capital, and
(ii) rate of interest.
♦ Autonomous Investment : This investment is independent of income and employment. Such investment is made by the government with the motive of social welfare.
♦ Equilibrium Volume of Investment : Investment decisions depend upon the relative superiority of MEC over rate of interest. MEC = r [Passive Effect on Investment or Neutral] MEC > r [Favourable effect on Investment] MEC < r [Adverse effect on Investment]

♦ Short Run : According to J. M. Keynes, “A period of time during which level of output is determined exclusively by the level of employment in the economy, is termed as short run.”
♦ Full Employment : It refers to a situation, where all those workers who are able to work and willing to work get employment at prevailing wage rate.
♦ In an Economy : Income Equilibrium Level = Output Equilibrium Level = Employment Equilibrium Level (Y) (O) (N)
♦ Short Run Equilibrium, i.e., Keynesian Approach AD = AS Approach (A) Employment is determined at a point where AD = AS. (B) If AD > AS, firm will employ more factors of production and it will again attain AD = AS. (C) If AD < AS, firm will cut employment and it will bring again AD = AS.
♦ Change in Equilibrium : Equilibrium position described above may be of full employment or may not be of full employment. It only determines the level of income. Therefore, for full employment we have to twist AD or AS. But AS depends on technological factors therefore if AD increases, it will raise the level of employment. S = I Approach
♦ According to Keynes income-employment ‘equilibrium is determined at a point where S = I.
(a) If S > I then equilibrium income will have a tendency to reduce.
(b) If S < I then equilibrium income will have a tendency to increase.

♦ Multiplier : It establishes relation between investment and income. It measures the change in income due to change in investment.
K = ΔY/ΔI = Change in Income/Change in Investment

♦ Relationship between Multiplier and Marginal Propensity to Consume (MPC) : The size of multiplier is determined by the Marginal Propensity to Consume. There is a direct relation between MPC and K. Higher the MPC, higher is the value of K and vice-versa. 

K = 1/1-MPC
and K = 1/MPS
MPC = Zero,
K = 1
MPC = 1
K = ∞

Value of K lies between 1 and infinity.
♦ Forward and Backward action of multiplier
♦ Multiplier is two-edge instrument and hence, it works in both direction.

Key Points

Barter system of exchange: It is a system in which goods are exchanged for goods. Such exchange exists in the C-C Economy (commodity to commodity exchange economy). For example, wheat may be exchanged for cloth; house for horses, etc., or a teacher may be paid wheat or rice as a payment for his/her services.
• Difficulties involved in the Barter Exchange:
➢ Lack of a common measure of value.
➢ Lack of double coincidence of wants
➢ Lacks of standard of deferred payments.
➢ Lack of store of value.
➢ Lack of divisibility.

• Money: Money may be defined as anything which is generally acceptable as a medium of exchange and at the same time acts as a measure, store of value and standard of deferred payment.

• Functions of Money:

1. Primary Functions
➢ Medium of exchange
➢ Measure of value or unit of value

2. Secondary Functions
➢ Standard of deferred payment
➢ Store of value
➢ Transfer of value

• Supply of Money: -Supply of Money is a stock concept. It refers to stock of money available with the public/people at a point of time.
• Stock of Money with the government and the banking system of the country is not the part of money supply.
• Components of Money Supply: -Currency with Public + Demand Deposits with Commercial Banks Measures of Money Supply
▪ M₁ = C + DD + OD (Most liquid asset)
▪ M₂ = M₁+ Post office savings deposits
▪ M₃ = M₁+ Time deposits of commercial banks
▪ M₄= M₃+ Total deposits with the post office saving organization excluding the deposits on NSC (Least liquid asset)

• Central Banks: The central Bank is the apex institution of monetary and financial system of a country. It makes monetary policy of the country in public interest. It manages, supervises and facilitates the banking system of the country.

Functions of Central Banks
❖ Bank of Issue
❖ Banker to the Government
❖ Banker’s Bank and Supervisor.
❖ Controller of credit.
❖ Lender of last resort
❖ Custodian of foreign exchange reserves

MONEY CREATION OR CREDIT CREATION BY COMMERCIAL BANKS
The capacity of banks to create money or credit depends on Amount of primary deposits and Legal reserve ratio(LRR).
• Legal Reserve Ratio (LRR): - is fixed by the central bank of a country and it is the minimum ratio of deposit legally required to be kept as reserve by banks.
• Cash Reserve Ratio (CRR): - It is a part of LRR which is to be kept with the central bank.
• Statutory Liquidity Ratio (SLR): - It is a part of LRR which is to be kept with the bank themselves.
• Money Multiplier = 1/LRR
• Credit creation = Initial deposit X 1/LRR.
Control on Credit Creation: -through the monetary policy RBI perform this function. For this RBI uses Quantitative instruments and Qualitative instruments.

QUANTITATIVE INSTRUMENTS
• Bank Rate Policy - It refers to the rate at which the central bank lends money to commercial banks as a lender of the last resort.
• Repo Rate Policy – It is the rate at which the central bank of the country (RBI) lends money to the commercial banks to meet their short-term needs.
• Reverse Repo Rate – It is the rate at which RBI borrows money from the commercial banks.
• Open Market Operations - It refers to the buying and selling of securities by the Central Bank from/ to the public and commercial banks.
• Legal Reserve Ratio - R.B.I. can influence the credit creation power of commercial banks by making changes in CRR and SLR.

Cash Reserve Ratio (CRR) - It refers to the minimum percentage of net demand and time liabilities to be kept by commercial banks with central bank. Reserve Bank increases CRR
during inflation and decreases the same during deflation.
Statutory Liquidity Ratio (SLR) - It refers to minimum percentage of net demand and time liabilities which commercial banks required to maintain with themselves in the form of specified liquid assets including cash, gold and govt. securities. SLR is increased during inflation or excess demand and decreased during deflation or deficient demand.

QUALITATIVE INSTRUMENTS:

Margin Requirements - It is the difference between the amount of loan and market value of the security offered by the borrower against the loan.

Important Questions for Class 12 Economics Money And Banking

Multiple Choice Questions (MCQs)

Question. Supply of money is a:
(a) Flow variable
(b) Stock variable
(c) Real flow
(d) None of these
Answer. B

Question. Supply of money refers to
(a) currency held by the public
(b) currency held by Reserve Bank of India
(c) currency held by the public and demand deposits with the commercial banks
(d) currency held by Reserve Bank of India and demand deposits with commercial bank
Answer. C

Question. Demand deposit include…
(a) Saving account deposits and fixed deposits
(b) Saving account deposits and current account deposits
(c) Current account deposits and fixed deposits
(d) All types of deposits
Answer. B

Question. ________ is the main source of money supply in an economy.
(a) Central Bank
(b) Commercial Banks
(c) Government
(d) Both (a) and (b)
Answer. D

Question. Which of the following is not included in money supply?
(a) Currency held by public
(b) Inter-bank-deposits
(c) Demand deposits in Banks
(d) Saving deposits with post office banks.
Answer. B

Question. Supply of money refers to the quantity of money
(a) on 31st March
(b) during any specific period of time
(c) on any point of time
(d) during a fiscal year
Answer. C

Question. Which one is included in the primary function of money?
(a) Medium of Exchange
(b) Measure of Value
(c) Both (a) and (b)
(d) None of these
Answer. C

Question. Which of the following statements is correct?
(a) Supply of money refers to stock of money held by public at a point of time
(b) Supply of money is a flow variable
(c) Supply of money includes cash reserve of banks
(d) Supply of money refers to bank money
Answer. A

Question. Which of the following is the supplier of money?
(a) Government and banking system
(b) Cooperative societies
(c) General public
(d) Life insurance corporation
Answer. A

Question. Deposits which can be withdraw on demand by the depositors are called__________
(a) Time deposits
(b) Savings deposits
(c) Term deposits
(d) Demand deposits
Answer. D

Question. The central bank can increase availability of credit by:-
(a) Raising repo rate
(b) Raising reverse repo rate
(c) Buying government securities
(d) Selling government securities
Answer. C

Question. _____________ is the main function of central Bank.
(a) Notes issue
(b) Credit creation
(c) Accepting deposits front e public
(d) None of these
Answer. A

Question. Which is the most liquid measure of the money supply?
(a) M4
(b) M3
(c) M2
(d) M1
Answer. D

Question. Which of the following is not the function of the Central Bank?
(a) Banking facilities to government
(b) Lending to commercial banks
(c) Banking facilities to public
(d) Lending to government
Answer. C

Question. When the central act as a banker to the government, what does it do?
(a) It carries out government transactions
(b) It advises on monetary and financial matters
(c) It keeps accounts of the government
(d) It carries out government transactions, advises on monetary and financial matters and keeps accounts of the government
Answer. D

Question. Central Bank is an apex bank of the country that:
(a) Controls the entire banking system of the country
(b) accepts and lending of deposits to public
(c) store of value
(d) creates credit
Answer. A

Question. The lender of the last resort is the function of:
(a) Rural Bank
(b) Central Bank
(c) Post office
(d) Commercial bank
Answer. B

Question. Credit Control means
(a) Contraction of credit only
(b) Extension and contraction of money supply
(c) extension of credit only
(d) supply of money remains the same
Answer. B

Question. Quantitative instrument of monetary policy includes:
(a) Margin Requirement
(b) Direct Action
(c) Statutory Liquidity Ratio
(d) Rationing of Credit
Answer. C

Question. Identify qualitative measure of central bank:
(a) Bank rate
(b) Open market operation
(c) Margin Requirement
(d) Cash reserve ratio
Answer. C

Question. What will be the effect of an increase in the ‘Repo Rate on the Money Supply?
(a) Money supply will increase
(b) Money supply will decrease
(c) Money supply will remain the same
(d) Money supply will initially increase and then it will decrease
Answer. B

Question. ____________ is the rate of interest charger by the Central Bank on loans given to commercial banks.
(a) Bank rate
(b) CRR
(c) Statutory liquidity Ratio
(d) Reserve Repo Rate
Answer. A

Question. Ms. Sakshi, an economics teacher, was explaining the concept of ‘minimum percentage of the total deposits to be kept by any commercial bank with the Central Bank of the country, as per norms and statute prevailing in the country’.
From the following, choose the correct alternative which specifies towards the concept explained by her?
(a) Cash Reserve Ratio
(b) Repo Rate
(c) Bank Rate
(d) Statutory Liquidity Ratio
Answer. A

Question. Which of the following is not a quantitative Method of Credit Control?
(a) Open Market Operation
(b) Margin Requirements
(c) Variable Reserve Ratio
(d) Bank Rate Policy
Answer. B

Question. ____________ refers to that portion of total deposits of a commercial bank which it has to keep with itself in the form of liquid assets
(a) Statutory Liquidity Ratio(SLR)
(b) Cash Reserve Ratio(CRR)
(c) Bank Rate
(d) Reserve Repo Rate
Answer. A

Question. Which agency is responsible for issuing Rs.1 currency notes in India?
(a) Ministry of Finance
(b) Ministry of Home Affairs
(c) Reserve Bank of India
(d) All of the above
Answer. A

Question. Who regulates money supply?
(a) Government of India
(b) Reserve Bank of India
(c) NITI Aayog
(d) Commercial Banks
Answer. B

Question. Who creates credit in the economy?
(a) Government of India
(b) Reserve Bank of India
(c) NITI Aayog
(d) Commercial Banks
Answer. D

Question. If the total deposits created by commercial banks is ₹. 10,000 crores and legal reserve requirements is 40% then amount of initial deposits will be
(a) ₹ 2000
(b) ₹ 2500
(c) ₹ 4000
(d) ₹ 10,000
Answer. C

Question. What will be the value of money multiplier when initial deposits are ₹ 500 crores and LRR is 10%?
(a) 0.1
(b) 0.2
(c) 10
(d) 20
Answer. C

Question. The amount of initial deposits is 3000cr and LRR is 25%. Calculate the amount of total deposits created by commercial banks
(a) 10000 crore
(b) 11000 crore
(c) 12000 crore
(d) 13000 crore
Answer. C

Question. Deposit creation by bank comes to an end when
(a) Fresh deposit with banks become zero
(b) LRR become zero
(c) Money multiplier become zero
(d) Total reserve equal to initial deposit
Answer. D

Question. What would be the total money creation in the economy, If initial fresh deposits with banks = 50,000 and LRR = 20%.
(a) `2,50,000
(b) `5,00,000
(c) `10,00,000
(d) `12,00,000
Answer. A

Question. Which one of the following is used for credit creation?
(a) K = 1/LRR
(b) K = 1/SLR
(c) K = 1/Bank Rate
(d) K = 1/ Repo Rate
Answer. A

Question. The value of credit multiplier will be high when
(a) Cash reserve ratio is high
(b) Cash reserve ratio is low
(c) Cash reserve ratio is zero
(d) Cash reserve ratio is infinity
Answer. B

Question. In a hypothetical economy, Mr. Neeraj has deposited ₹100 in the bank. If it is assumed that there is no other currency circulation in the economy, then the total money supply in the economy will be ________________
a) zero
b) ₹ 100
c) not defined
d) ₹ 120
Answer. B

Question. Two friends Akash and Amit were discussing about the features of central bank.
“This features saves the commercial banks from possible breakdown”
The above mentioned statement was given by Akash, identify the feature was he taking about…
(a) Banker’s bank
(b) Lender of the last resort
(c) Controller of credit
(d) Financial advisor
Answer. B

Question. Read the following statements carefully and choose the correct alternatives given below:
Statement 1 – Central bank lends money to borrowers at a very low interest.
Statement 2 – Ministry of finance circulates all mint and one rupee note in India.
Alternatives:
(a) Both the statements are true.
(b) Both the statements are false.
(c) Statement 1 is true and Statement 2 is false
(d) Statement 2 is true and Statement 1 is false
Answer. D

Question. Read the following statements carefully and choose the correct alternatives given below:
Statement 1 – The value of money multiplier is determined by the reserve ratio prevailing in the monetary system.
Statement 2 – The process of credit creation directly relates to the value of reserve ratio.
Alternatives:
(a) Both the statements are true.
(b) Both the statements are false.
(c) Statement 1 is true and Statement 2 is false
(d) Statement 2 is true and Statement 1 is false
Answer. C

Question. Choose the correct statement from given below
(a) Commercial banks create credit out of primary deposits.
(b) The money multiplier is directly related to the legal reserve ratio.
(c) The central bank of the country is not authorized to maintain foreign exchange reserves.
(d) All of the above
Answer. A

Question. Assertion(A): Currency Held by Public is a monetary liabilities of central bank
Reason(R): Central bank control credit, whereas commercial bank create credit with currency held by Public.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. B

Question. Assertion (A): Central Bank as a banker to the government, works as a custodian of cash reserves.
Reason(R): The Central Bank acts as a clearinghouse for the transfer and settlement of mutual claims of commercial banks.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. B

Question. Assertion(A): Central bank as a banker to government, work as a financial advisor
Reason(R): Government borrow internally from banks and general public.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. C

Question. Assertion(A): Demand deposits are also called bank money.
Reason(R): Demand deposits are created by commercial banks.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. B

Question. Assertion(A): LRR represents the minimum reserve ratio essential to be maintained by banks.
Reason(R): Banks create deposits in the process of making loansto their customers.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. B

Question. Assertion(A): The Central Bank is also known as the bank of issue.
Reason(R): The Central Bank enjoys the sole monopoly of issuing currency to ensure control over volume of currency and money supply.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. A

Question. Assertion(A): Demand deposits are created by commercial banks.
Reason(R): Demand deposits form a significant part of the total money supply in the economy.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. B

Question. Assertion(A): Only net demand deposits held by commercial banks are taken as part of money supply.
Reason(R): Only deposits of the public held by the banks are included in money supply
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. A

Question. Assertion(A): Credit creation is inversely related to the Legal Reserve Ratio.
Reason(R): LRR is fixed by the market forces of demand and supply.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. C

Question. Assertion(A): The monetary policy is the policy formulated by central bank of a country
Reason(R) : The policy measures involves measures taken by the central bank to regulate the supply of money, availability and cost of credit in the economy.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. A

Question. Assertion(A): Banks issues currencies.
Reason(R): Commercial Bank is an institution that accepts deposits and provides loans to the public.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. D

Question. Assertion(A): An increase in CRR results in decrease in the value of multiplier
Reason(R): Banks lend money many times more than their cash reserves.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. B

Question. Assertion (A)- Credit creation process increases the money supply in economy.
Reason (R)- through the credit creation process commercial banks can distribute loans many times as compare to their primary deposits
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. B

Question. Assertion (A)-settlement of liabilities of commercial banks is done by RBI. Reason (R)- RBI holds the accounts of all commercial banks and commercial banks keep funds in it essentially.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. B

Question. Assertion (A): Statutory liquidity ratio is the ratio of demand deposits of a commercial bank which, it has to keep with itself in the form of specified liquid assets.
Reason (R): Statutory liquidity ratio is a component of legal reserve ratio, which affects the credit creation in the economy.
(a) Both Assertion(A) and Reason(R) are true and Reason(R) is the correct explanation of the Assertion(A)
(b) Both Assertion(A) and Reason(R) are true and Reason(R) is not the correct explanation of the Assertion(A)
(c) Assertion(A) is true but Reason(R) is false
(d) Assertion(A) is false but Reason(R) is true
Answer. B

CASE STUDY -2

Read the following case study paragraph carefully and answer the questions on the basis of the same.

The Reserve Bank of India raised inflation forecasts on the back of higher oil and other raw materials while it maintained the growth forecast at 9.5% for FY22 despite anemic investment demand. Governor Shaktikanta Das said inflation measured by the consumer price index (CPI) might remain close to the upper tolerance band of 6% up to September expecting easing of pressure thereafter on kharif harvest arrivals. [RBI has fixed inflation rate target in between 2%-6 %.] The central bank projected CPI at 5.7% for FY22 compared to its earlier projection of 5.1%. “The supply-side drivers could be transitory while demand-pull pressures remain inert, given the slack in the economy. A pre-emptive monetary policy response at this stage may kill the nascent and hesitant recovery that is trying to secure a foothold in extremely difficult conditions,” Das said.
Crude oil prices are volatile with implications for imported cost pressures on inflation, RBI said. “The combination of elevated prices of industrial raw materials, high pump prices of petrol and diesel with their second-round effects, and logistics costs continue to impinge adversely on cost conditions for manufacturing and services, although weak demand conditions are tempering the pass-through to output prices and core inflation

Question. How does RBI promote growth process of country:-
a) By controlling price level in country
b) By changing various interest rates and money supply
c) By increasing supply of products
d) All of above
Answer: B
 

Question. Why does RBI fix the inflation target?
a) To make growth process fast
b) To make coordination with government
c) To manage exchange rate
d) To stabilize economy
Answer : D
 

Question. Why increasing crude oil prices are matter of concern :-
a) Increasing crude oil prices are increasing transportation cost
b) Increasing crude oil prices are making economy potentially unstable
c) Increasing crude oil prices are volatising growth process
d) Increasing crude oil prices are adversely affecting demand
Answer : B

Question. What is money multiplier?
Answer. It refers to measurement of total money created by the banks in the form of deposits from each unit of initial deposits.
Money Multiplier=1/LRR

Question. What is central bank?
Answer. It refers to that apex institute which controls, operates, regulates and develops monetary and banking structure of the economy. In India, it is known as Reserve Bank of India. It was established on 1st April, 1935.

Question. Explain various functions of central bank.
Answer. Functions of central bank: –
1. Bank of Issue: Central bank has given sole monopoly power to issue the currency (except one-rupee notes and coins in India as it is issued by government of India) with the objective to control over the volume of money supply and credit in the economy.
The currency issued by the central bank circulates in the economy as a legal tender money.
Central bank has to maintain the reserves of gold and foreign exchange against the notes issued by it as per the statutory rules.
2. Banker to the government: Central bank act as a banker to the government i.e. both state and central governments. All banking business of the government are carried out by the central bank.
Government has the current account with the central bank, therefore, central bank accepts receipts and makes payment on behalf of the government.
It also manages all public debts of the country. Whenever government has excess budgetary expenditure and needs loan then central bank also provides short term loans to government.
3. Banker’s bank: There are hundreds of banks in an economy, so there should be some authority to regulate and supervises their functioning and this duty is assigned to the central bank.
Central bank act as a banker’s bank in the following ways: –
(i) Custodian of cash reserves: Central bank is the holder of minimum cash reserves of commercial banks as every bank must keep a minimum proportion of total deposits with central bank in the form of reserves.
(ii) Lender of last resort: Whenever banks are short of funds and fails to meet their financial obligation from any other source, then central bank at last provides loans and advances against discounting approved securities and bills of exchange, it is known as lender of last resort.
(iii) Clearing house function: Central bank holds cash reserves of commercial banks. So, it becomes easier for it to use clearing house function. All banks have their accounts with the central bank, thus central bank can easily settle the claims of various commercial banks by making debit and credit entries in their accounts.
4. Controller of money supply and credit: Central bank not only issue the currency but also has given responsibility to control money supply and credit in the economy with the objective to maintain the price stability in the economy. For this, central bank uses monetary policy which has following instruments: –
(i) Quantitative instruments: These instruments are used to control the total volume of credit in the economy. It includes bank rate, open market operatives, cash reserve ratio and statutory liquidity ratio, repo rate and reverse repo rate.

(ii) Qualitative instruments: These instruments are used to affect direction of credit in economy. It includes moral suasion, marginal requirements and selective credit rationing.
5. Custodian of foreign exchange reserves: Central bank act as a custodian of nation’s gold and foreign exchange reserves with the objective to stabilise external value of domestic currency. All transactions of foreign currency are routed through RBI. If a person receives foreign exchange then he has to deposit it with the central bank.
Similarly, if a person needs foreign exchange to make payment in abroad, then he has to supply with the central bank.

Question. Explain various tools of monetary policy to control credit in the economy.
Answer. The policy used by central bank to control the money supply and credit in the economy is called monetary policy.
It includes following tools: –
1. Quantitative Tools
a. Bank Rate: It is the rate at which central bank lends money to commercial banks to meet their long-term needs.
(i) If central bank increases bank rate, it will further increase rate of interest by commercial banks, thus cost of borrowings will increase which discourage people to borrow from banks and lead to contraction of credit.
(ii) If central bank decreases bank rate, it will further decrease rate of interest by commercial banks, thus cost of borrowings will decrease which encourage people to borrow from banks and lead to expansion of credit.
b. Open Market Operations: It refers to buying and selling of government securities by the central bank in the open market from and to public and commercial banks.
(i) If central bank sells government securities in the open market, then it will reduce bank deposits, so capacity of banks to offer credit will decrease and lead to contraction of credit.
(ii) If central bank purchases government securities in the open market, then it will increase bank deposits, so capacity of banks to offer credit will increase and lead to expansion of credit.
c. Cash Reserve Ratio (CRR): It refers to that minimum percentage of total deposits which a bank must keep with the central bank in the form of reserves.
(i) If central bank increases CRR, it means bank has to now keep more proportion of deposits with the central bank, then thus availability of funds with the bank for credit will decrease and will lead to contraction of credit.
(ii) If central bank decreases CRR, it means bank has to now keep less proportion of deposits with the central bank, then thus availability of funds with the bank for credit will increase and will lead to expansion of credit.
d. Statutory Liquidity Ratio (SLR): It refers to that minimum percentage of total deposits which a bank has to keep with itself in the form of liquid assets.
(i) If central bank increases SLR, it means bank has to now keep more proportion of deposits with itself, thus capacity of banks to offer credit will decrease and lead to contraction of credit.
(ii) If central bank decreases SLR, it means bank has to now keep less proportion of deposits with itself, thus capacity of banks to offer credit will increase and lead to expansion of credit.
e. Repo Rate: It is the rate at which central bank leads money to commercial banks to meet their short-term needs. The central bank provides short-term loans by discounting approved securities and bills of exchange.
(i) If central bank increase repo rate, it will further increase rate of interest by commercial banks, thus cost of borrowings will decrease which discourage people to borrow from banks and lead to contraction of credit.
(ii) If central bank decrease repo rate, it will further decrease rate of interest by commercial banks, thus cost of borrowings will increase which encourage people to borrow from banks and lead to expansion of credit.
f. Reverse Repo Rate: It is the rate at which central bank borrows from commercial banks.
(i) If central bank increases reverse repo rate, it includes banks to transfer the funds to the RBI in the attraction of higher rate of interest, thus, capacity of banks to offer credit to public will decrease and lead to contraction of credit.
(ii) If central bank decreases reverse repo rate, it includes banks to transfer the funds to the RBI because of lower rate of interest, thus, capacity of banks to offer credit to public will increase and lead to expansion of credit.

2. Qualitative Tools
a. Marginal requirements: It is the difference between market value of securities offered and amount of loan sanctioned.
(i) If central bank increases marginal requirements, so less credit will be offered against the security by the banks and lead to contraction of credit.
(ii) If central bank decreases marginal requirements, so more credit will be offered against the security by the banks and lead to expansion of credit.
b. Moral suasion: It is the method adopted by central bank to persuade or convince commercial banks in order to advance the loans in accordance with direction of central banks for expansion or contraction of credit.

More Question

1. What is barter? State any two difficulties faced in barter system.
2. State and explain the four functions of Money.
3. Define `Money Supply`. What are the components of money supply?
4. Explain the terms: Chequable deposits, demand deposits, SLR, CRR, LRR, Money multiplier.
5. If LRR is 0.1, what is the value of deposit multiplier.
6. What is the difference between : High Powered Money and Bank Money?
7. What is a bank? Are all financial institutions banks? Discuss.
8. Briefly describe the banking structure in India.
9. Define Central Bank. Discuss its functions.
10. Explain the process of CREDIT CREATION by Commercial Banks.
11. Explain the process of money multiplier with help of a numerical example. Assume that LRR is 20 %.