Money and credit

1.Why is modern currency accepted as a medium

of exchange without any use of its own? Find out
the reason.
Modern currency is accepted as a medium of
exchange because:
● It is authorised by the government of India.
● It is issued by the apex bank on behalf of the
government.
● No other individual is allowed to issue currency.
● The law the country legalises its use as a
medium of payment and setting transactions.
● No one in a country can refuse payment made
in the currency of that country.
2.How do demand deposits have the essential
features of money? Explain.
Demand deposits are deposits in the bank that
can be withdrawn on demand. Demand deposit
share-essential features of money because:
● The facility of cheques against demand deposits
makes it possible to directly settle payments
without the use of cash.
● Demand deposit is accepted widely as a means
of payment alone with currency.
3. Explain the term Debt-trap. Why is it more
rampant in rural areas? Give two reasons.
A Debt trap is a situation in which a borrower is
led into a cycle of re-borrowing because they are
unable to repay the loan. It is more common in
rural areas because:
● A borrower repays a loan by selling the
agricultural produce, which sometimes may not
be enough to repay the loan.
● Rural borrowers normally depend on informal
sources of credit who charge a high rate of
interest. This repayment of larger amounts may
sometimes be larger than their income. Thus, it
can be concluded that loans from banks
always help to raise people’s earning capacity.
Define Collateral. Why do lenders ask for
collateral while lending?
4. Collateral is an asset that the borrower owns
(such as land, building, vehicle, livestocks,
deposits with banks) & uses this as a guarantee to
a lender until the loan is repaid.
Lenders ask for collateral while lending because:
- In case a borrower fails to repay the debt, the
collateral can be used to generate the amount
that borrower owes.
- Hence, collateral is a legal guarantee that the
debtor will repay the money by all means.
5.Describe the utility of cheque?
● Cheques have the same features of money.
● They settle payments without the use of cash.
● They are widely accepted as a means of
payment.
● There pose the least risk in transaction.
● In a fair dealing, it is the most appropriate
means of money transaction.
6. Banks play an important role in economic
development of the country. Support the
statement with examples. Banks play an
important role in economic development of the
country as they:
● Provide Loans: Banks keep a small portion of
their deposits as cash with themselves & use
major portion of it to grant loans for various
economic activities.
● Acts as a link between savers & investors, i.e.
people who have surplus money & those who are
in need of money.
● Provide interests: Banks provide interest on the
money deposited by the people. Thus, they add to
the income of the family. Many families survive
on the bank interest.
● Boost industrial sectors: Banks provide cheap
loans to the industries. This generates more
employment & raises income thereby bringing
economic development.
● Promotes development: Banks provide loans in
rural areas for crop production ultimately
resulting in the development of many places.
7. Write merits and demerits of ‘formal sector of
credit’ in India.
MERITS
● Formal sector helps to meet the working capital
needs of production.
● They give very low interest rate. This reduces
the
chance of the borrower to be trapped in a debt
trap.
● It helps in increasing earnings by making more
investment.
● Helps in completing production on time.
DEMERITS
● People face difficulty in obtaining loans.
● Formal sector of credit lacks credibility in rural
areas.
● People don’t always have collateral or required
documents.
8. Explain the functions of Reserve Bank of India?
FUNCTIONING:
● Supervises the functioning of loans in formal
sector.
● Maintain checks & balances.
● It issues guidelines for fixing rate of interest on
deposits and lending by banks.
● It issues currency notes on behalf of the central
government.
● Periodically, the banks have to submit a report
to the RBI on how much they are lending, to
whom
and at what interest rate.
9. What is the concept behind the formation of
Self-Help Groups? Explain its functioning.
A Self Help Group is a financial intermediary
committee made up of people who share a
common local area as well as a common type of
work or financial situation. The idea behind its
functioning is to encourage people to pool their
savings & there by increase their opportunities for
earnings.
● A typical SHG has 15-20 members, usually
belonging to one neighbourhood, who meet &
save regularly.
● Saving per member varies from Rs. 25 to Rs. 100
or more, depending on the ability of the people to
save.
● Members can take small loans from the group
itself to meet their needs WITHOUT A
COLLATERAL.
● The group charges interest on these loans but
this is still less than what the moneylender
charges.
● After a year or two, if the group is regular in
savings, it becomes eligible for availing loan from
the bank.
10. Why is it necessary for banks and cooperatives
to extend their lending activities in rural areas?
Explain.
It necessary for banks and cooperatives to extend
their lending
activities in rural areas because:
● High Cost of Borrowing: Rural poor and farmers
have to
borrow money from moneylenders at a very high
rate of interest.
● Low income of borrower: A large part of the
earnings of borrower is used to repay the loans.
● Dependency on Informal Sector: Majority
population of the rural areas are still dependent
on informal sectors for loan which does not follow
any rules and regulations.
● Discrimination in informal sector in providing
loans.
● To save the people from the clutches and
exploitation by the moneylenders, it is necessary
for the banks and co-operatives to extend their
lending activities.
Hence, loans through banks and cooperatives
would lead to higher incomes and improve the
condition of the rural poor. People can also start a
business or set up a small scale industry.
11.Explain the differences between formal and
informal sources of credit.
Formal Source Informal Source Banks require
collateral and proper documentation for getting a
loan. No collateral is required. A reasonable rate
of interest is charged.Higher rate of interest is
charged.
RBI supervises them. There is no organisation to
supervise them.
Terms of credit are fair and reasonable.Terms of
credit are very tough and unreasonable. Includes
banks and cooperatives. Includes moneylenders,
traders, employers, friends and relatives.
12. Prove with arguments that there is a
great need to expand formal sources
of credit in rural India.
There is great need to expand formal sources
of credit in rural India because:
● There is no organisation that supervises
the credit activities of lenders in the
informal sector.
● Rural money-lenders use unfair means to
get their money back.
13. Define Credit. What are terms of credit?
● Credit refers to an agreement in which the
lender supplies the borrower with money, goods
or services in return for the promise of future
payments with interest.
● Interest rate, collateral and documentation
requirement and mode of repayment together
comprise terms of credit.
14. Why is ‘Rupee’ widely accepted as a medium
of exchange? Explain two reasons.
The rupee’ is widely accepted as a medium of
exchange because:
- The currency is authorised by the government
on the country.
- In India, Reserve Bank of India issues currency
notes on behalf of the central government.
- Moreover, the law legalises the use of rupee as
a medium of payment that cannot be refused
in settling transactions in India.
15. Read the given text and answer the following
questions:
A person holding money can easily exchange it for
any commodity or service that he or she might
want. Thus everyone prefers to receive payments
in money and then exchange the money for things
that they want. Take the case of a shoe
manufacturer. He wants to sell shoes in the
market and buy wheat. The shoe manufacturer
will first exchange shoes that he has produced for
money, and then exchange the money for wheat.
Imagine how much more difficult it would be if
the shoe manufacturer had to directly exchange
shoes for wheat without the use of money. He
would have to look for a wheat growing farmer
who not only wants to sell wheat but also wants
to buy the shoes in exchange. That is, both parties
have to agree
to sell and buy each others commodities. This is
known as double coincidence of wants. What a
person
desires to sell is exactly what the other wishes to
buy. In a barter system where goods are directly
exchanged without the use of money, double
coincidence of wants is an essential feature.
In contrast, in an economy where money is in use,
money by providing the crucial intermediate step
eliminates the need for double coincidence of
wants.
a) What is meant by double coincidence of wants?
b) Give a reason why transactions are made in
money?
c) Highlight the inherent problem, in double
coincidence of wants.
a) When the seller and buyer or both parties
agree to sell and buy each other commodities,
it is called double coincidence of wants. What a
person desires to sell is exactly what the other
wishes to buy. In a barter system where goods
are directly exchanges without the use of
money, double coincidence of wants is an
essential feature.
b) The transactions are made in money because a
person holding money can easily exchange it for
any commodity or service that he or she wants.
c) The inherent problem in double coincidence of
wants is both the parties (seller and the buyer)
have to agree to buy and sell each other’s
commodities.