Credit control policy of central bank. Central Bank: Methods of Credit Control 2022-11-04
Credit control policy of central bank
A central bank's credit control policy refers to the measures it uses to regulate the amount of credit available in the economy. This is an important tool for central banks, as credit plays a significant role in economic growth and stability. By controlling the supply of credit, central banks can influence the demand for goods and services, which in turn can impact inflation and employment levels.
There are several ways in which a central bank can exert control over credit. One common method is through the use of reserve requirements, which refer to the percentage of deposits that banks must hold in reserve at the central bank. By increasing or decreasing reserve requirements, the central bank can influence the amount of credit available to banks, which in turn can impact the overall level of credit in the economy.
Another tool that central banks use is the setting of interest rates. By raising or lowering interest rates, central banks can influence the cost of borrowing money, which can impact the demand for credit. For example, if interest rates are high, consumers and businesses may be less inclined to borrow money, which can lead to a reduction in credit demand. On the other hand, if interest rates are low, there may be more demand for credit as it becomes more affordable to borrow.
In addition to these tools, central banks may also use other measures to control credit, such as moral suasion, which involves persuading banks to change their lending practices, or quantitative easing, which involves the central bank purchasing securities from banks in order to increase the supply of money in the economy.
Overall, a central bank's credit control policy plays a crucial role in maintaining economic stability and promoting growth. By using a variety of tools, central banks can help to ensure that credit is available to those who need it, while also preventing excessive credit growth that could lead to economic problems such as inflation or asset bubbles.
How and why do central banks control the Credit policies of commercial banks? (Cam. GCE 2002)
Then in such situation the Central Bank will start purchasing securities in the open market from Commercial Banks and private individuals. In developed countries Commercial Banks automatically change their credit creation policy. Quantitative or General Methods: 1. This is the general liquidity effect of changes in the bank rate. One, to influence the reserves of commercial banks in order to control their power of credit creation. If you have any doubt about this article, you can comment us. Mostly such circumstances are rare when the Central Bank is forced to resist to such measures.
Methods of Credit Control used by Central Bank
In narrow sense—the Central Bank starts the purchase and sale of Government securities in the money market. Cash Reserve Ratio not Stable: The success of open market operations also requires the maintenance of a stable cash-reserve ratio by the commercial bank. Since they also deal in government securities, open market sale and purchase of such securities by the central bank also affect their liquidity position. This means that Rs. Minimum margin requirements: ADVERTISEMENTS: This weapon is selective in respect of the field of its application. On the other hand, a reduction in the bank rate will not induce them to borrow during periods of falling prices.
Bank Rate Policy for Credit Control in Central Bank
They therefore, embody the view that the monopoly of credit should in fact become a discriminating monopoly. The Central Bank will lower down the Cash Reserve ratio with a view to expand the cash reserves of the Commercial Banks. Although qualitative in character, they are yet treated as minor ones. Their demerits primarily arise from this thinking. This consists of buying or selling short term government securities. For example, if the Commercial Banks have excessive cash reserves on the basis of which they are creating too much of credit,this will be harmful for the larger interest of the economy. But in developing countries Commercial Banks being lured by regional gains.
Methods of Credit Control by Central Bank
With this activity the cash will now move from the Central Bank to the Commercial Banks. Under the consumer credit system, a certain percentage of the price of the desirable goods is paid by the consumer in cash. Answer: The Fed influences the availability and cost of money and credit as the national monetary policy authority to maintain a healthy economy. RBI regulates the total volume of credit that may be extended to customers by the commercial banks and fixes a minimum time period for repayment or increases down payment required for specific categories to influence the flow of credit in a particular direction. The second half of the year saw the implementation of far-reaching policy initiatives, the most notable of which was the gradual activation of monetary policy. In developed countries Commercial Banks automatically change their credit creation policy.
Monetary policy credit control measures and their effectiveness
A change in margin requirements influences the flow or direction of credit. Open Market Operations: Open market operations are another method of quantitative credit control used by a central bank. Furthermore, the bank rate policy becomes ineffective in the underdeveloped money markets as the banks do not approach the central bank very frequently for obtaining credit facilities. If the RBI increases the reverse repo rate, it means that the RBI is willing to offer lucrative interest rate to banks to park their money with the RBI. Raising the reserve ratio for all banks is not justified in the former region though it is appropriate for the latter region. In fact, they are an adjunct to general quantitative controls. Similarly, when the Central Bank desires that the Commercial Banks should increase the volume of credit in order to bring about an economic revival in the country.
Central Bank: Methods of Credit Control
Not for Small Changes: This method is more like an axe than a scalpel. Lenders, other than commercial banks and brokers, who are not subject to margin requirements, may increase their security loans when commercial banks and brokers are being controlled by high margin requirements. It implies that when the central bank sells or buys securities, the reserves of the commercial banks decrease or increase accordingly to maintain the fixed ratio. Similarly, when the Central Bank desires that the Commercial Banks should increase the volume of credit in order to bring about an economic revival in the country. It may then happen that the state uses the central bank so as to implement its The central bank may equally judge that the liquid asset ratio of commercial banks is too low thus permitting excessive credit creation that fuels inflation.
Credit Control By RBI / Central Bank
They also restrict the demand for money by laying down certain conditions for borrowers. When the banks keep excessive reserves, an increase in the reserve ratio will not affect their lending operations. In recent years, the bill of exchange as an instrument of financing commerce and trade has fallen into disuse. This method affects only persons with limited incomes and leaves out higher income groups. The bank rate or discount rate is the first class bills of exchange.
Monetary and Credit Policy of RBI
Although this method can bring about a quick reduction in the bank credit by a mere stroke of pen, it is considered to be highly discriminatory as it affects the different banks differently — affecting smaller banks more adversely than their larger counterparts. Thus open market operations are more effective for controlling inflation than the change in reserve ratio. Stability of Reserve Ratio: The effectiveness of this technique depends upon the degree of stability of the reserve ratio. In other words, it is the maximum value of loan which a borrower can have from the banks on the basis of the security or collateral. A change in CRR affects the credit creation capacity of the commercial banks. It is non-discriminatory because it applies equally to borrowers and lenders.
Method of Credit Control by Central Bank
It cannot be used for day-to-day and week-to-week adjustments but can be used to bring about large changes in the reserve positions of the commercial banks. Method of Publicity 5. If the banks do not feel the necessity of availing rediscounting facilities of the central bank, a rise in the bank rate will have no effect on the commercial banks. Banks do not approach Central Bank: The effectiveness of the bank rate policy as a tool of credit control is also limited by the behaviour of the commercial banks. Pessimism or Optimism: The efficacy of the bank rate policy also depends on waves of pessimism or optimism among businessmen. The aim of selective credit control is channelize the flower of bank credit from speculative and other undesirable purpose to socially desirable and economically useful.
Control by Central Bank: Top 6 Objectives
The two categories are: I. For instance, if the central bank raises the discount rate for the purpose of contracting credit, it will not be effective when the commercial bank have large excess reserves with them. As a result the cash balances of member banks increase their power to lend increases and the volume of credit expands. There is no guarantee that the bank loans would be used for the specific purpose for which they are sanctioned. The Government has given the Fed two coequal monetary policy goals: first, maximum employment; and second, stable prices, which means low, stable inflation. In so doing the central bank inevitably has some control over commercial banks. Limitations of Selective Credit Controls: Though regarded superior to quantitative credit controls, yet selective credit controls are not free from certain limitations.