In fact, the concepts of busy and slack seasons in banking transactions had their origin at a time when the ebb and flow of agricultural seasons determined those of bank credit and deposits. Direct action may take the form either of a refusal on the part of the Central Bank to re-discount for banks whose credit policy is regarded as being inconsistent with the maintenance of sound credit conditions. Therefore, qualitative measures are known as the selective measures of credit control. The correct position is stated in the Bank's Handbook on Selective Credit Control published in the late 1970s. The term margin denotes that part of the loan amount, which cannot be borrowed from bank. The speculators are discouraged to buy and stock goods.
Because of this, credit becomes dear and borrowing from banks becomes costly. Let us now see how a Central Bank can control credit by manipulating the Bank Rate. This is an important method of credit control and this policy has been adopted by a number of countries like Russia and Germany. They will repay their loans thus the raising of bank rate will lead to a contraction of credit. Further since it has no legal back up in times of credit expansion it is not effective. This leads to reduction is money supply for undertaking speculative activities and thus inflationary situation is arrested. Methods of Selective Credit Control The Central Bank uses the following qualitative methods to control the credit in the economy: 1.
Woof a Bank Rate: It is the rate at which central bank discounts the securities of commercial banks or advance loans to commercial banks. It has been suggested that in case of acute shortages, credit controls should be imposed much in advance of the actual rise in prices of sensitive commodities. Such publications help to understand the changing situations and the needs of a country. When customer usage exceed the predefined credit limit appropriate action for informing the customer balance is done. Later the limit was gradually raised and it was Rs.
The variation of cash reserves secures the same results as open market operations but without the loss that may arise in dealing in securities. Variations of reserve requirements affect the liquidity position of the banks and hence their ability to lend. The main instruments of selective credit control in India are: i Minimum margins for lending against selected commodities, ii Ceilings on the levels of credit, and iii Charging of minimum rate of interest on advances against specified commodities. It is actually a very powerful weapon, but it may cause much suffering if it is not used properly. To ensure overall development of a nation, development of various sectors is a must. This gives result in the fall in the cash reserves of the Commercial Banks, which in turn reduces the ability of create credit. We provide email based Monetary Policy help.
If the Commercial Banks do not follow or do not abide by the advice or request of the Central Bank no gross action is taken against them. There may be a written or oral voluntary agreement between the central bank and commercial banks in this regard. Unfortunately, the latest edition of the Functions and Working of the Reserve Bank of India, published by the central bank, contains a factual error perpetuating this myth. In such countries large and influential borrowers can avoid the restrictive effects of these measures by borrowing against the security of other collaterals and utilising the funds so borrowed for speculative purposes, i. These measures make distinction between good credit and bad credit and regulate only such credit, which creates economic instability. However, these days no commercial bank can afford to go against the wishes of the central bank with regard to policy matters, as the central bank has wide powers even to stop banks' operations. They are as follows: 1.
Thus raise in bank rate will contract credit. The Supreme Court rules on the Constitutionality of state and federal laws. Under this system the commercial banks follow very cautious activities and many not extend credit facilities even if they have surplus reserves due to the fear that they may be asked to maintain higher cash reserves than before. If the foreign exchange rate is stabilized, it indicates the stable economic conditions of the country. A judicious combination of both will remedy the defects of each technique when used individually, and produce good results. In case it is desired to curtail bank advances, the Central Bank may issue directions that a higher margin be kept.
They will repay their loans. With this activity the cash will now move from the Central Bank to the Commercial Banks. But in developing countries Commercial Banks being lured by regional gains. Even though there is an increase in their cash reserves, they may not expand the credit for want of credit-worthy borrowers. If there is excess demand for certain consumer durables leading to their high prices, central bank can reduce consumer credit by a increasing down payment, and b reducing the number of installments of repayment of such credit. Non-banking financial institutions and indigenous bankers also play a significant role in financing trade and industry in India. It may also fix a maximum limit for the loans that the commercial banks can borrow from the Central Bank.
Regulation of consumer credit: The Central Bank to regulate the consumer credit, fixes the down payments and the period over which the installments are spread. But in actual practice it may not change in the desired direction due to two factors, such as hoarding and dishoarding of cash and inflow and outflow of capital, etc. This method affect the demand for credit rather than the quantity and cost of credit. Central seek to control such credit in several ways. The idea behind the scheme was to watch the flow of credit to the borrowers closely and also ensure that the commercial banks are lending loans of large amount as per the credit appraisal as well as the actual requirements of the borrower. Selective controls are especially useful in less developed investment away from less important sectors such as the construction of buildings, the commercial sector, or speculative purchase of land, towards more important areas. To achieve stability in the Price level: Frequently changes in prices adversely affect the economy.
These steps restrict the overall lending by the banks against these commodities. They directly affect the demand for bank credit as also the capacity of the banks to lend. As a Bank of Central Clearance: The central bank acts as a clearinghouse for member banks. In India the Cash Reserve Ratio has become an important tool to control or expand liquidity position with the banking system. To arrest inflationary situation central bank pursuades and request the commercial banks to refrain from giving loans for speculative and non-essential purposes.
Every central bank is empowered to issue such directive by virtue of the statutory powers conferred on it and usually the central bank implement this policy by offering incentives like liberal refinancing facility to banks which follow the directives and restraining the erring banks by arranging for scrutiny of their lending pattern or imposing penalties for violation. In both cases the result is the same. Methods of Selective Credit Control The important methods of selective credit control policies are discussed in detail. For example, during inflationary period, the central bank may curtail the commercial banks from lending to enable consumers to buy T. In a real , there would be many more pipes, valves, and other apparatus shown surrounding this process vessel.