Money And Banking Important Questions.
Q1. High powered money consists of:
(a) Currency and Coins held by the public
(b) Currency, cash reserves with banks and demand deposits
(c) Currency and coins held by the public and deposits held by government and commercial banks
(d) Currency and demand deposits
Ans. (c)
Q2. Identify the incorrect statement given below
(a) Present currency can work as money as it is a legal tender.
(b) Coins held by the public are limited legal tender.
(c) Central bank mints coins in India
(d) Central banks do not deal with the general public.
Ans. (c) Central bank mints coins in India
Q3. 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
Ans. (a) Commercial banks create credit out of primary deposits.
Q4. What will be the impact on the credit creation ability of commercial banks if the government reduces income tax slabs?
(a) There will be more credit creation in the economy.
(b) There will be less credit creation in the economy.
(c) There will be no impact on credit creation.
(d) It depends upon the behavior of the targeted population.
Ans. (a) There will be more credit creation in the economy.
Q5. Currency held by the public is a component of ……………… measures of the money supply.
Ans. M1 and M2
Q6. In India, …………………. Is the banker of all the banks.
Ans. Reserve Bank of India
Or
……………. Refers to the minimum percentage of a bank’s total deposits to be kept with the Central Bank.
Ans. Cash Reserve Ratio
Q7.Read the following statements Assertion (A) and Reason (R). choose one of the correct alternatives given below
Assertion (A) Currency held by the public is a monetary liability of the central bank.
Reason (R) Central bank controls credit, whereas commercial banks create credit with the currency held by the public.
Alternatives
(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct explanation of Assertion (A)
(b) Both Assertion (A) and Reason (R) are true but Reason (R) is the not correct explanation of Assertion (A)
(c) Assertion (A) is true, but Reason (R) is false.
(d) Assertion (A) is false, but Reason (R) is true.
Ans. (b) Both Assertion (A) and Reason (R) are true but Reason (R) is the not correct explanation of Assertion (A)
(a) What was the form of money used immediately after the barter system?
(i) Commodity money (iii) Coinage
(ii) Precious metals (iv) Currency notes
Ans. Commodity money
(b) Evolution of money has ………………. (expanded/ contracted) the size of the market.
Ans. expanded
(c) Which of the following is not a component of the quantitative instrument of RBI?
(i) Marginal requirement (iii) Repo rate
(ii) Cash reserve ratio (iv) Bank rate
Ans. Marginal requirement
(d) How the domestic money supply will change if there is an increase in foreign investment?
(i) Increase (iii) Remain constant
(ii) Decrease (iv) None of these
Ans. Remain constant
Q9. Read the following statements Assertion (A) and Reason (R). Choose one of the correct alternatives given below
Assertion (A) The currency notes do not carry as much value in them as is denominated, still have general acceptance.
Reason (R) Currency notes are backed by a legal promise from the central bank and central government of the country.
Alternatives
(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct explanation of Assertion (A)
(b) Both Assertion (A) and Reason (R) are true but Reason (R) is the not correct explanation of Assertion (A)
(c) Assertion (A) is true, but Reason (R) is false.
(d) Assertion (A) is false, but Reason (R) is true.
Ans. (a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct explanation of Assertion (A)
Q10. Giving a numerical example, explain the process of money creation by the commercial banks.
Ans. Money creation (or deposit creation or credit creation) by the banks is determined by
(i) The amount of the initial fresh deposits and
(ii) Legal Reserve Ratio (LRR) i.e. the minimum ratio of deposit, legally required to be kept as cash by the banks. It is assumed that all the money that goes out of the banks, is re-deposited into the banks.
Let the LRR be 20% and there is a fresh deposit of ₹ 10, 000. As required, the banks keep 20%, i.e. ₹ 2,000 as cash. Suppose, the banks lend the remaining ₹ 8,000. Those who borrow, use this money for making payments. As assumed, those who receive payments, put the money back into the banks.
In this way, banks receive fresh deposits of ₹ 8,000. The banks again keep 20%, i.e.₹ 1,600 as cash, and lend ₹ 6,400. Which is also 80% of the last deposits. The money again comes back to the banks leading to a fresh deposit of ₹ 6,400. The money goes on multiplying in this way and ultimately total money creation is ₹ 50, 000.
Given the amount of fresh deposit and the LRR, the total money creation is
Or
Ques. The government of India has Launched ‘Jan- Dhan Yojana’ aimed at every household to have at least one bank account due to which the credit creation capacity of banks has expanded manifold. Comment.
Ans. With the introduction of ‘Jan- Dhan Yojana’. Many households have opened a bank account. Due to this, primary deposits of commercial banks have increased. Banks create credit based on primary or initial deposits. Higher the primary deposits, higher is the credit creation capacity of commercial banks and vice-versa.
Now, with the implementation of ‘Jan- Dhan Yojana’, since primary deposits have increased, reserves of the bank to create credit has also increased. Therefore, the credit creation capacity of commercial banks has increased manifold.
Q11. Case-based Questions:
Read the following case study paragraph carefully and answer the questions based on the same.
The central bank of India i.e. Reserve Bank of India is the apex institution that controls the entire financial market. It’s one of the major functions is to maintain the reserve of foreign exchange. Also, it intervenes in the foreign exchange market to stabilize the excessive fluctuation in the foreign exchange rate.
In other words, it is the central bank’s job to control a country’s economy through monetary policy; if the economy is moving slowly or going backward, there are steps that the central bank can take to boost the economy. These steps, whether they are asset purchases or printing more money, all involve injecting more cash into the economy. The simple supply and demand economic projection occurs and currency will devalue.
When the opposite occurs, and the economy is growing, the central bank will use various methods to keep that growth steady and in-line with other economic factors such as wages and prices. Whatever the central bank does or doesn’t do, will affect the currency of that country. Sometimes, it is within the central bank’s interest to purposefully affect the value of a currency. For example, if the economy is heavily reliant on exports and their currency value becomes too high, importers of that country’s commodities will seek cheaper supply; hence directly affecting the economy.
(i) Which of the following tools are used by the central bank to control the flow of money in the domestic economy?
- (a) Fiscal tools
- (b) Quantitative monetary tools
- (c) Qualitative monetary tools
- (d) Both (b) and (c)
Ans. Both (b) and (c)
(ii) An increase in the foreign exchange reserves is recorded in the (Credit/ debit) side of Bop.
Ans. Credit
(iii) Which of the following steps should be taken by the central bank if there is an excessive rise in the foreign exchange rate?
- (a) Supply foreign exchange from its stock
- (b) Demand more of other foreign exchange
- (c) Not intervene in the market as the exchange rate is determined by the market forces
- (d) Help central government to stabilize the foreign exchange rate.
Ans. Supply foreign exchange from its stock
(iv) Dear money policy of the central bank, which is used to keep the growth steady and in-line with other economic factors, refers to
- (a) Tighten the money supply in the economy
- (b) Ease the money supply in the economy.
- (c) Allow commercial banks to work in a less strict environment
- (d) Both (b) and (c)
Ans. Tighten the money supply in the economy
Q12. Money serves as a common denomination of value. Explain how it has changed human lives.
Ans. In the barter system of exchange, there was a lack of a common measure of value. In the absence of a common unit, the proper valuation was not possible e.g. cloth is measured in meter, while milk is measured in liter.
Hence, under the barter system, these commodities were not measurable in a common unit which complicated the process of exchange.
But with the evolution of money, this problem has been solved. Now, every commodity can be expressed in terms of money. E.eg one meter of cloth costs ₹ 50 and one liters of milk cost ₹ 45.
Therefore, it has changed human lives in the following ways
(i) People’s standard of living has improved.
(ii) It has facilitated the exchange process.
Or
Ques. Explain any two forms through which commercial banks lend money.
Ans. Two forms through which commercial banks lend money are as follows
(i) Overdraft under this arrangement, a customer with a current account can withdraw more than what he has deposited in his account.
Interest is charged on the amount withdrawn during the period.
(ii) Loans and Advances are paid- in a lump sum and are repayable either in installments or in a lump sum after the expiry of a specified period. Interest is charged on the whole amount sanctioned. Generally, loans and advances are given against some collateral.
Q13.Who regulates the money supply?
(a) Government of India (c) Commercial Bank
(b) Reserve Bank of India (d) Planning Commission
Ans. Reserve bank of India
Q14. …………….. refers to money backed by the order or authority of the government.
(a) Legal tender money (c) Fiat money
(b) Fiduciary money (d) Both (a) and (c)
Ans. Both (a) and (c)
Hint: Legal tender money is also referred to as fiat money.
Q15. ………………. Paper money is backed by the equivalent amount of gold and silver.
(a) Representative (b) Convertible (c) Inconvertible (d) Credit
Ans. Representative
Q16. Read the following statements Assertion (A) and Reason (R). Choose one of the correct alternative given below
Assertion (A) Central bank as a banker to the banker to the government, works as a financial adviser.
Reason (R) Government borrows internally from banks and the general public.
Alternatives
(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct explanation of Assertion (A)
(b) Both Assertion (A) and Reason (R) are true but Reason (R) is not the correct explanation of Assertion (A)
(c) Assertion (A) is true, but Reason (R) is false.
(d) Assertion (A) is false, but Reason (R) is true.
Ans. Assertion (A) is true, but Reason (R) is false.
Q17. What is meant by cash reserve ratio?
(a) A fraction of total deposits kept with banks
(b) The fraction of time deposits kept with banks
(c) The fraction of demand deposits kept with banks
(d) None of the above
Ans. None of the above
Q18. “Commercial banks have many modes of lending money”. Explain any three such modes.
Ans. The money collected by the commercial banks in the form of various deposits is lent to businessmen, farmers, and others, Lending money may take the form of
(i) Overdraft under this arrangement, a customer with a current account can withdraw more than what he has deposited. Interest is charged on the amount overdrawn during the period.
(ii) Cash Credit under this arrangement, the bank advances cash loan up to a specified limit against current assets and other securities. The bank opens an account in the name of the borrower and allows him to withdraw the borrowed money from time to time. Interest is charged on the amount withdraw and not on the sanctioned amount.
(iii) Loans and advances A loan is a lump sum advances repayable on the expiry of the specified period. It may be secured or unsecured. Interest is charged on the whole amount sanctioned. The bank may allow the borrower to repay the loan in a lump sum or installments.
Q19. Read the following news report and answer Question 7 – 10 based on the same:
The reserve Bank of India (RBI), cut Repo Rate to 4.4%, the lowest in at least 15 years. Also, it reduced the Cash Reserve Ratio (CRR) maintained by the banks for the first time in over seven years. CRR for all banks was cut by 100 basis points to release ₹ 1.37 lakh crore across the banking system. RBI governor Dr. Shaktikanta Das predicted a big global recession and said India will not be immune. It all depends on how India responds to the situation. Aggregate demand may weaken and ease core inflation.
(i) Cut in Repo rate by RBI is likely to ______increase_________ (increase/ decrease) the demand for goods and services in the economy.
(ii) Decrease in Cash Reserve Ratio will lead to ________________
(a) Fall in aggregate demand (c) rise in aggregate demand
(b) No change in aggregate demand (d) fall in the general price level
Ans. The rise in aggregate demand
(iii) The difference by which actual Aggregate Demand exceeds the Aggregate Demand required to establish full employment equilibrium is known as the inflationary gap (inflationary gap/ deflationary gap).
(iv) The impact of ‘Excess Demand’ under the Keynesian theory of income and employment, in an economy, are:
(a) The decrease in income, output, employment, and general price level
(b) The decrease in nominal income, but no change in real output
(c) Increase in income, output, employment, and general price level
(d) No change in output/ employment but an increase in the general price level.
Ans. No change in output/ employment but an increase in the general price level.
Q20. (a) Define money multiplier
Ans. The money multiplier is the number of times by which cash reserves of the commercial banks (with RBI) multiply to become demand deposits, given the CRR (cash reserve ratio).
Q21. India is expected to experience a situation of medium to high inflation rates during the last quarter of 2020. In your opinion, the RBI should increase the repo rate (repo rate/ money supply).
Q22. Full-bodied money means:
(a) Money Value = Commodity Value
(b) Money Value > Commodity Value
(c) Money Value < Commodity Value
(d) Money Value ≠ Commodity Value
Ans. Money Value = Commodity Value
Q23. In India, coins are issued by:
(a) State Bank of India (c) Ministry of Finance
(b) Reserve Bank of India (d) Department of Revenue
Ans. Ministry of Finance
Q24. The cut in the repo rate will lead to an increase in aggregate demand. True or False.
Ans. True
Q25. When money value of money exceeds the commodity value of money, it is called:
(a) Full-bodied money (c) Flat money
(b) Credit money (d) Fiduciary money
Ans. Credit money
Q26. If inflation is to be combated, the RBI:
(a) Raises SLR and lowers CRR (c) Raises both SLR and CRR
(b) Lowers SLR and raises CRR (d) lowers both SLR and CRR
Ans. Raises both SLR and CRR
Q27. Read the following paragraph and answer the questions:
In Oct 2019, the International Monetary Fund (IMF) estimated Venezuela’s annual inflation rate for 2019 to be an astounding 200,000%. Considering that central banks like the U.S. Federal Reserve and European Central Bank (ECB) aim for annual inflation targets of around 2%- 3%, Venezuela’s currency and economy are in crisis.
(a) The situation in the above paragraph represents the situation of _____________ (deflation/ hyperinflation).
Ans. hyperinflation
(b) Inflation leads to a wage-price spiral. True or False.
Ans. True
(c) The central bank should __________________ (raise/ decrease) margin requirement to tackle this situation.
Ans. raise
(d) Is borrowing from the central bank a viable solution for this problem?
Ans. No, the situation of hyperinflation arises due to excess demand. To correct excess demand, the government should reduce borrowing from RBI.
Q28. RBI lowers the repo rate from 5.40% to 5.15%.
Analyze the economic value of this statement from the viewpoint of
(i) the households, (ii) investors, and (iii) the economy.
Ans. A cut in repo rate (the rate at which commercial banks can raise loans from RBI) is expected to be followed by a cut in the market rate of interest ( the rate at which the commercial banks offer loans to the people). It is expected to impact the households, investors, and the economy as under:
Impact on Households: A cut in the market rate of interest ( followed by a cut in repo rate) is expected to induce borrowings for the purchase of consumer durables, as well as houses and flats. Also, the existing loans ( raised against floating interest rate) will now attract lower EMI. Implying a direct monetary benefit to the households.
Impact on the Investors: As a result of the cut in the market rate of interest, the cost of borrowings ( implying the cost of capital) will reduce. Accordingly, investment is expected to increase across all areas of production activity.
Impact on the Economy: When demand for consumer durables rises, aggregate demand is expected to rise. Aggregate demand also tends to rise when investment expenditure rises. Because both consumption expenditure and investment expenditure are significant components of aggregate demand. Thus, the level of planned output is expected to rise along with the level of planned purchase in the economy. Accordingly, the equilibrium GDP is level is expected to rise. Implying a rise in the growth rate of GDP.
Q29. Read the following statements Assertion (A) and Reason (R). Choose one of the correct alternatives given below
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.
Alternatives
Both Assertion (A) and Reason(R) are true and Reason (R) is the correct explanation of Assertion (A)
Both Assertion (A) and Reason(R) are true, but Reason (R) is not the correct explanation of Assertion (A)
Assertion (A) is true, but Reason (R) is false.
Assertion (A) Is false, but Reason (R) is true.
Ans. (b) Both Assertion (A) and Reason(R) are true, but Reason (R) is not the correct explanation of Assertion (A)
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