Central Bank
Chapter # 5
Central Bank
A central bank is an institution which is
responsible for safeguarding the financial
stability of the country.
Function of The Central Bank
1:Monopoly of note issue.
2:Banker to government.
3:Lender of the last resort.
4:Controller of the credit .
1:Monopoly of note issue
The central bank of a country is responsible for
issuing currency notes for it.
The notes issued should be according to the needs of
trade and industry.
Principals of note issue:
1:Currency principle
2: Banking Principal
Note issuance
2: Banker to the Government
Central Bank :Is a banker to the government of the
country.
It performs all services which a commercial banks do
for its customers.
like….
 Collect taxes on behalf of gov’t, pay pensions and
salaries to employees
 Advisor in financial matters to the government
 provides short term advances to government.
3:Lender of the last resort
The central Bank acts as lender of the last resort
for the commercial banks.
It helps other banks during their financial
difficulties.
For this purpose it advance loans to banks……..
4:Controller of credit
The most important function of central bank
in modern times is that of controlling the
credit operations of commercial banks by
regulating their credit volume…
For controlling credit C.B use….
1:Bank rate policy
2:Change in reserve ratio
3:Credit rationing.
4: Direct action
Credit Control(Monetary policy)
Credit control is necessary for economic
stability in a country…
Central bank increase or decrease the credit
according to the needs of a country for achieving
economic stability through controlling
supply of money.
Methods of Credit Control
It adopts various methods for this purpose…
1: Bank rate policy
2: Open market operation
3: Credit rationing
4: Direct action
5: Reserve ratio
1: Bank rate policy
Bank rate is the rate of interest at which
central bank advances loans to the
commercial banks.
When central bank increase the bank rate, commercial
banks raise interest rate in giving out loans ,for
decreasing the flow of money.
When central bank decrease the bank rate, commercial
banks lower the interest rate in giving out loans, for
increasing the flow of money.
2: Open market Operation
It refers to purchase and sale of gov’t
securities by the central bank in open market,
(Purchase and sale of any kind of paper)
During inflation…
Central bank sells securities which results decrease in supply
of money…
During deflation…
Central bank purchase securities which results increase in
supply of money
3: Credit rationing
Under this method Central bank allots credit
quota(portion) to commercial banks on basis
of their business…
In case of inflation…
Central bank decrease credit quota…
In case of deflation…
Central bank increase credit quota….
4: Direct action
If commercial banks are following the policy
that is inconsistent with the monitory policy of
central bank…
It can take direct action by imposing
penalty over commercial
banks…Like banning its new
branches.
5:Changes in reserve ratios
Central bank also control the credit by
changing the reserve ratios of commercial
banks which is normally 25%....
In times of inflation:
Central bank increase the reserve ratio
In times of deflation:
Central bank decrease the reserve ratio