3 Money and Credit

CHAPTER AT A GLANCE

Medium of Exchange

t is a system of mutual exchange where It is anything which has common acceptability as a

Barter system > Money
goods are exchanged for goods directly. means of exchange, a measure and store of value.

Limitations of Barter System

Lack of double Lack of store of Lack of standard for Lack of a common

coincidence of wants value deferred payments unit of value

Modern forms of Money

Deposits with banks Currency

000
People deposit extra It is authorised by the Indian
cash in banks
government. For example,
OAO90000 paper notes and coins.
Can be withdrawn Demand deposits

Can be used for payments Transfer Cheque Demand draft Money order

Loan Activities of a Bank

Interest earned

Money deposited
Depositors- Bank Money loaned
Borrowers

Interest paid

Interest to depositors is Low.

Interest from borrowers is High.
.Difference of interest from borrowers and depositors is Banks' income.
 Credit

Formal Terms of Credit Informal

Collateral
Features Documentation
Types Types Features
ww%.w Tenure
Mode of repayment
Banks Low rate of interest High rate of interest
Rate of interest Moneylenders
Cooperatives Easy repayment Repayment is not easy Friends
Documentation required No documentation Traders
Relatives

Self-Help Groups (SHGs)

Functioning Objectives Advantages

15-20 members To create sensitive forum for addressing needs Develops the habit of taking intiative
.Neighbours who meet and save of people Inculcates the sense of responsibility
regularly To enhance participation Enables ownership of assets
Savings R 25 to R 100 (varies per To inculcate saving habits in community Helps in capacity building9
member) To enhance capabilities of women Develops self-confidence and
Grants small loans to members To generate sense of collective action self-esteem
Does not ask for collateral To act as a successful base Promotes mutual help
Any non-repayment is seriously To improve socio-economic status Encourages resource pooling
followed up by other members To access resources Provides channel for ftunctioning
 It has been accepted as a medium of exchange because: pay an amount (as an interest)
these deposits, In
on

(a) Goods and services are being bought and sold this way, people's money is safe with the banks
and
with the use of money easily. also earns an amount in the form of interest.
(6) Money solves the problem of double coincidence 52. Explain with examples, how
of wants.
people are involved
with the banks.
(c) Money is sometimes paid as advance with the
Ans. People are involved with the banks in the
promise of delivery of goods later. following
(d) It is a perfect store of value. ways:
(e) It makes economic activities quite independent (a) Depositors:
The people with excess
money
from each other. deposit it in the banks for safety. In tum they
earn interest on the amount
49. How can money be easily exchanged for goods and deposited.
(b) Borrowers: At the same time, there are people
services? Give an example to explain. who need money for various activities.
Delhi 2013, 16 They
approach the banks for eredit. The bank charges
Or interest from the borrowers.
Why are transactions made in money? Explain 53. What do you think would happen ifall the depositors
with suitable examples. went to ask for their money at the same time?
Ans. The banks keep only
15 per cent of the total deposits
Or
as provisions to pay the depositors, but if all the
How is money used medium of
as a
exchange? depositors go to ask for their money at the same
Explain with examples. time, then the banks will not be able to cater to the
Ans. Money is used as a medium of exchange because it withdrawal needs of the depositors. This may also
serves as a common medium through which people affect the lending process of the banks as it will have
can carry out buying and selling. Use of money makes to use the major portion of the
deposited money for
economic activities independent of each other. At the demand deposits.
same time, it removes the inconvenience caused
by 54. How do the deposits with the banks become their
the barter system.
source of income?
For example, person wants to sell sugar and buy
a
Ans. Banks the major portion of the deposits with
use
wheat. He has to look for a person who wants sugar
them to extend loans. As there is a
and has wheat to sell. In contrast, if in an economy, huge demand for
loans for various economic activities, the banks make
where money is used, the person who wants to sell
use of the
sugar only has to look for a buyer for his sugar. The deposits with them to meet the above loan
requirements. In this way, the banks mediate between
money which he will get can be used to purchase the
the depositors and the borrowers. Banks charge a
wheat or any other commodity in the market. Since,
higher interest rate on loans than what they pay on the
money is used in the exchange process it is called a
deposits. The difference between interest rate charged
medium of exchange.
from the borrowers and what is paid to the depositors
50. How does money solve the problem of 'double is, thus, the main source of income for the banks.
coincidence of wants'? Explain with an example. 55. How is money transferred from bank account one
Delhi 2014 to another bank account? with
Explain an example.
Ans. Refer to Ans. 2 (NCERT) Ans. For payment through cheque, the payer who has an
51. What are demand deposits? How is money safe account in the bank, draws out a
cheque for a specihc
with the banks? Explain. Foreign 2013 amount. The cheque is a statement asking the bank
to
Ans. The deposits in the bank accounts which can be pay a specific amount from the person's account
to the person in whose has been
withdrawn on demand are called demand deposits. name the cheque
issued.
People deposit their surplus cash at the beginning of For example, Aman has to pay a specific amount of
the month with the banks, where they have an account
in their names. Banks accept these deposits and also money to Shruti, say 60,000. Aman will write a
cheque in the name of Shurti. It means Aman instructs
 makes loan repayment impossible. They have
to
his bank to pay the money to Shurti. Shurti will deposit
loan
the cheque in her bank. After two or three days, the sell part of the land to repay the loan or a fresh
and the
money will be transferred from Aman's account to may be required to repay the previous loan,
borrower may find himself caught in a vicious
circle
Shurti's account.
and recovery from such a situation is very painful.
56. Given that a large number of people in our country
are poor, does it in any way affect their capacity 60. Which government body supervises the functioning
to borrow? of formal sources of loans in India? Explain its
Ans. Credit is always given after properly assessing the functioning.
repayment capacity of the borrower. Since, poor Ans. Reserve Bank of India supervises the functioning of
formal sources of loans in India. The RBI plays the
people do not have repayment capacity, they are
usually unable to get a loan, especially from the formal following rule:
sector. They get some loan from the informal sector It issues currency notes behalf of the central
() on
but in that case, they often fall in debt-trap because government.
of very high rate of interest. (ii) It issues guidelines for fixing rate of interest on
57. Explain the procedure involved in the issuing of a deposits and lending by banks.
(iit) It ensuresthat banks should minimum cash
cheque.
balance out of the deposits they receive.
Ans. For making payments through a cheque
(iv) It ensures that the banks should give loans not
(a) the payer, who is an account-holder with the
only to profit making businesses but also to poor
bank, issues a cheque from his cheque book for
people and small traders.
a specific amount.
(v) Periodically, the banks have to submit a report
(b) the cheque instructs the bank to pay a specific
to the RBI on how much they are lending, to
amount from the depositor's account to the
whom and at what interest rate.
person or institution, in whose name it has been
issued. 61. Why should credit at reasonable rates be available
(c) The money is, then, transferred from one bank for all?
account to another bank account in a day or Ans. Credit is an important aspect of economic activity.
two and the transaction is complete without any Right from a small farmer to a big business tycoon,
payment of cash. everyone needs to borrow at some time to improve
58. Explain the meaning of 'terms of credit. productivity. In case of unreasonable rates, the
Ans. Interest rate, borrower always runs the risk of falling in the debt-
collateral, documentation requirement
and the mode of repayment together comprise what trap which is not good for the society and the economy
is called the "terms of credit". These terms vary as a whole. Hence, reasonable rates are important for
substantially from one credit arrangement to another. all.
They may vary depending on the nature of the lender 62. Credit has its own unique role for development.
and the borrower. These are required to make the Justify the statement with arguments.
borrowers aware of the conditions to be followed for
Ans. Credit has a unique role in the economic development
taking the loan.
of the country. It is needed by all the three sectors of
59. When does credit push the borrower into a debt the economy. In urban sector, big businessmen and
trap? Explain with the help of an example. small manufacturers need loans either to expand their
Ans. In situation with high risks, credit might create enterprises, bring new technology or diversifying their
problems and pushes the borTOwer into a debt-trap. businesses.
He is much worse off than before. For example, In rural sector, the main demand for credit is for crop
crop production involves high costs on inputs such production. Crop production involves cost of seeds,
as fertilizers, pesticides, water etc. Farmers generally fertilizers, pesticides, water, electricity, repair of
take loans at the beginning of the season and repay equipments. Cheap credit would thus lead to increase
the loan after harvest. But the failure of the crop in production.
 Even tertiary sector needs loans to buy the latest Ans. In formal sector, the rate of interest is low. It is fixed
equipments and technology. Thus, we can say that by the Reserve Bank of India, who supervises the
credit has a unique role in the development of a functioning of formal sources of loan.
country. In informal sector, the rate of interest is very high as
63. Explain why the supervision of the functioning of there is no organisation to supervise the functioning
formal of loans is of informal sources of loan.
sources necessary?
Ans. The supervision of the functioning of formal sources 67. Most of the poor households still depend on the
of loans is necessary to check informal sector for loans, both in rural and urban
(a) whether the banks actually maintain the cash areas of India." Support the statement with three
balance. examples.
(b) whether the banks give loans not just to profit-
Or
making businesses and traders but also to small
cultivators, small-scale industries and small "Poor households still depend on informal sources

borrowers. of credit." Support the statement with examples.

(c) how much banks are lending, to whom and at Ans. Poor households still depend on informal sources of
what interest rate. credit because:
64. Why do the poor households rely on informal credit (a) Bank loans require proper documentation and
till today? Explain.
HOTS collateral which is rarely available with poor
Ans. Poor households, till today, rely mainly on informal households.
sources of credit, like moneylenders, because of the (6) Informal sources of credit such as moneylenders
following reasons. know the borrowers personally and are often

(a) Lack of banking facilities. willing to give a loan without a collateral.

(b) Even if banks are established in some rural areas, (c) Sometimes, if the borrowers are unable to return
the loan, they can get additional loans from
it is very difficult to get credit from them due
to a lot of paperwork involved, which makes moneylenders.
taking credit from the bank very cumbersome. 68. How is the concept of Self-Help Groups (SHGs)
(c) Informal creditors like moneylenders, happen to important for poor people? Give your viewpoint.
know the borrowers personally, so they provide Foreign 2013, 161
them the loan without a collateral. Ans. The concept of Self-Help Groups (SHGs) is very
65. Prove with an argument that there is a great need important for poor people. Self-Help Groups are
to expand formal sources of credit in rural India. required because:
Ans. There is a great need to expand the formal sources (a) they help the borrowers to overcome the problemn
of credit in rural India because: of lack of collateral.

(a) There is no organisation to supervise credit

(b) they help the rural poor (especially women) to
come financially self-reliant.
activities of the informal sector.
(b) It could lead to increasing debt among the
(c) they provide a platform to hold regular meetings
and thus, discuss issues such as health, nutrition
borrowers.
and domestic violence.
(c) The rate of interest is very high in informal
69. Deseribe any three
sector. advantages of the Self-Help
loans with informal sector
Groups (SHGs) for the poor.
66. Compare formal sector Ans. The three advantages of the SHGs for the
loans regarding rate of
interest. poor are
as follows.
Or
(a These groups help the rural poor, in particular
service conditions of formal sector loans women, to get organised to handle the money
Why are
better than informal sector? Explain. [Ajmer 2019 collected and sanction loans.
 (b) These groups help the women to become Ans. People deposit the surplus or extra money in the
financially self-reliant. banks. The banks keep the money safe and provide
(c) These groups create self-employment interest on it. The deposits can be drawn at any time
opportunities for the members and thus save on demand by the depositors. That is why they are
the poor from the clutches of the
moneylenders. called demand deposits.
70. How do SHGs help borrowers to overcome the The benefits of deposits with the banks are:
problem of lack of collateral? Explain with an They can be encashed by issuing cheques in the name
example. of the person to whom the payment is to be made.
Ans. SHGs help borrowers to overcome the problem of They make it possible to directly settle payments
lack of collateral in the following ways: without the use of cash.
(a) It is the group that is responsible for the Since demand drafts/cheques are widely accepted as a
repayment of loan. means of payment along with currency, they constitute
(b) Any case of non-payment of loan by any member money in the modern economy.
is followed up seriously by other members 73. Describe the vital and positive role of credit with
(c) The formal sector is willing to lend to the
examples.
members of SHGs because of their good track
Ans. Credit plays a vital and positive role in the following
record of managing the credit.
ways:

Long Answer Type Questions [5 Marks] (a) It helps people from all walks of life in setting

role in the up their business, increase their income and

71. How do banks play an important
provide support to their family needs.
economy of India? Explain. [Foreign 2015; HOTS]
(b) It makes it the people to own or
possible for
Or construct their own house and get relief from

Banks plays an important role in the economic monthly rent.

credit to
development of the country." Support the
statement
(c) People often avail themselves of
with examples. ICBSE 20201 purchase luxury items like vehicles, A.Cs, etc.,
which further raises their standard of living.
Ans. Banks play an important role in developing the
It enables to invest in human resource.
economy of India by taking the following steps: (d) us
etc.
Peopletake credit for education, training,
(a) Banks keep money of the people in safe custody
which allows enrichment of human
resource.
to be used by the depositors in future.
credit facility to
(b) They provide excellent saving and investment For example, Salim availed
needs of production.
meet the working capital
options to the depositors and thus help the nation. the ongoing expenses
(C) Banks also increase the savings ofthe depositors It helped him to meet
production on time,
by paying interest on the money deposited. of production, complete
income.
who have thereby,increasing his
a)Banks mediate between people will be useful or not, depends
surplus and those who need money. This is done Whether credit
74. different examples
through granting loans. People avail themselves situation." Give two
upon the
statement.
of these loan facilities to increase production in support of this
whether credit will be
and income. examples showing
Ans. The two
(e)Banks, being the formal of credit. give the situation are:
source
useful or not, depends upon
festival
loans at a very low rate of interest at flexible manufacturer. During the
terms and conditions. Chirag is a shoe for 3,000 pair of
shoes
receives an order
season, he
Special provisions are made through banks for in a month. He employs
two more
the upliftment of to be completed
agriculture and industry like and stitching. He takes an advance
workers for pasting
waiving of loans of the farmers. (any five) trader for 1,000 pair
of shoes.
from a large
4.Why are the deposits in the banks called 'demand payment
leather supplier
to supply leather and

eposits? What are the benefits of He asks the the

Chirag completes
the banks? deposits with payment
would be made
later.
 order in a month, makes a good profit and repay all 75. Explain any four terms of credit with examples.
the money that he had borrowed. Ans. The four terms of credit are:
Sapna, a small farmer, grows groundnut in her three Interest rate. The borrower has to pay a sum of
acres of land. She took a loan from the moneylender, money as interest along with the principal amount.
hoping to repay the loan, once the crop is harvested. Collateral. It is an asset that the borrower owns and
Being hit by the pest, the crop fails. Expensive uses this as a guarantee - to the lender untill the loan
pesticides did not make any difference. Sapna is is repaid.
unable to repay the moneylender and the other year,
Documentation. Proper documents of borrowing with
it becomes a bigger amount. Next year again, she all the terms and conditions must be submitted.
took a loan for cultivation. It is not a bumber crop
this year too. Sapna earns little, but it is not enough Mode of repayment. The mode through which
to repay the old loans. She had to sell a part of the the borrower will repay the loan must be clearly
land to repay the loan. She is caught in a debt. This mentioned. Long-term loans can be repaid in annual,
situation is called debt-trap. Hence, we can say that half yearly or monthly installments.
it depends on situation whether credit will be useful
or not.

76. Differentiate between formal sector credit and informal sector credit.
Or
Mention any three points of distinction between formal sector loans and informal sector loans.

Ans. FormalSector Credit Informal Sector Credit

(a)This credit is provided by banks and cooperative (a) This credit is provided by traders, moneylenders,
societies to the borrowers. employers, relatives, friends, etc.
(6) The Reserve Bank of India (RB) supervises the (6) There is no government or private organisation
functioningg of formal sector loans. It periodically which supervises the informal sector loans.
checks the interest rate and other details of the
sources.
(c) Proper terms ofcredit like collateral, docunentation, | (c) Terms of eredit are flexible for the personal benefit
rate of interest and mode ofpayment are followed. of the lenders and pitiable condition
of borrowers.
() They provide cheap and affordable credit with (d) They exploit the borrowers for their own benefits.
common terms of credit for all.
(e) They charge less interest rates as compared to ( ) Their rate of interest is much higher than that of
informal sectors. formal sector.

77. Why is cheap and affordable credit important for (c) Cheap credit would also allow weaker sections
a country's development? Explain with reasons. of society to access formal sector of lending
and get rid of from informal moneylenders.
Or
Affordable credit would also end the cycle of
(d)
Describe the importance of formal sources of
debt trap.
eredit in the economic
development. |Delhi 2019 (e) Cheap and easy terms of credit would inspire
Ans. Cheap and affordable credit is crucial for
a
country's better investment in technology and thus
development because:
increase competition.
(a) More lending would lead to
and encourage
higher incomes 78. What are the various sources of credit in
rural
people to invest in agriculture, areas? Which one of them is the most convenient
engage in business and set up small industries.
(b) Cheap credit will enable more investment. source of credit? Why is it most convenient? Give
This two reasons.
leads to acceleration of economic
activity.
Ans, Various sources of credit in rural areas are:
sector. As a result, they charge exorbitant
(a) Agricultural traders rates of interest which vary from borrower to
(6) Moneylenders borrower.
(c) Commercial banks
(6) They, thereby, indulge in exploitative practices
d) Cooperative societies
involving unfair means to get their money back
(e) Relatives and friends
from the borrowers.
The most convenient source of credit is the
(c) As the cost of borrowing is very high in the
moneylender because of the following reasons.
informal sector, a larger part of the income of
(a) There is no need of documentation process the borrower is used to repay the loan, i.e., the
while taking loan from informal sources, such borrower has less income left for himself.
as moneylenders. (d) In certain cases, the amount to be repaid is
(b) No collateral security is required. Collateral greater than the income of the borrower. This
is an asset that the borrower owns such as
in turn leads to increasing burden of debt
land, building. livestock ete. and uses this which culminates in
as a guarantee to the lender until the loan is
a
debt-trap.
(e) In this sector, those people who wish to start
repaid.
an enterprise may not actually do so, because
79. What are the two main reasons for formal credit of the high cost of borrowing which acts as a
not being available to the rural p0or? Why is
deterrent.
there a need to expand rural credit?
81. How can the formal sector loans be made
Ans. The two main reasons for formal credit not being
beneficial for poor farmers and workers? Suggest
available to rural poor are:
any five measures.
(a Absence of collateral and documentation is the
Ans. The
n e formal sector loans can be made beneficial to
main reason which prevents rural poor from As poor farmers and workers in following ways:
getting loans from banks.
(b) The arrangements of informal sector loans (a) The process of providing loans should be made
are flexible in terms of timeline, procedural easier and accessible to them.
number of banks and cooperatives should
requirements, interest rates, etc. They are 6) Large
adjustable according to the needs and be opened in the rural areas.
convenience of the borrower. This attracts the (c) Banks and cooperatives should expand their
borrowers. facility of providing loans so as to decrease
There is a need to expand rural credit from the side dependence on informal sector.
of formal sector because of the following reasons: and small
(d) Special focus should be paid on poor
(a) Informal sectors exploit rural poor by pushing farmers along with small scale industries.
faster and
them in debt-trap. (e) Loan processing should be simple,
(b) Cheap and affordable credit for rural poor is timely.
important for the country's overall development.
82. Why is it necessary for the banks and cooperatives
(c) With this credit, the rural poor can grow erops, in rural areas?
to increase their lending facilities
do business or set up small-scale industries. Foreign 2015, 14
80. "The credit activities of the informal sector should
Explain.
sources like banks
and
be Ans. It is necessary for formal
discouraged". Support the statement with
their lending in rural
areas
Cooperatives to increase
arguments Delhi 2016; HOTS
i t is correct to state that the credit activities of the
because of the following reasons.

the
Formal s o u r e e s are far behind in meeting
informal sector should be discouraged. This can be (a) Informal
people in rural
areas.
Turther substantiated with the following points. needs of the
traders have taken
sources like moneylenders,
a) There is no
organisation as such which supervises, under their
influence.
the credit activities of the lenders in the informal the rural areas
 (b) Informal sources charge a high rate of interest (a) They help the poor to become self-reliant in
from the borrowers which makes it dificult for terms of savings and generating income as the
them to repay the loan. They get trapped in the decisions regarding savings are taken by the
debt-trap group members.
(c) Informal sources aare not under any supervision (6) They avail the facilities of loans from formal
from any authorised institution. They behave sources like banks at low rate of interest.
arbitrarily in terms of giving loans and setting (c) They create self-employment opportunities by
terms of credit. discussion within their group.
(d) The rich have better access to formal sources (d) They make it possible for the poor to avail
whereas poor are forced to depend on informal timely finance without any collateral.
sources. Equal distribution of credit facilities is, (e) The entire group is responsible for the
therefore, required and is the need of the hour, repayment of loan.
so that the poor can also avail cheap and timely
Case Based Questions
credit facilities.
(e) Formal sources of credit can help people in 85. Read the passage below and answer the following
rural areas to avail other benefits like cold questions:
storage facilities, subsidised seeds and other We have seen that money is something that can act
agricultural inputs. as a medium of exchange in transactions. Before the
83. Discuss the functioning of Self-Help Groups introduction of coins, a variety of objects was used as
(SHGs). Delhi 2017 money. For example, since the very early ages, Indians
Ans. A Self-Help Group is an innovative way to organise used grains and cattle as money. Thereafter came the
rural and urban poor, particularly women. use of metallic coins-gold, silver, copper coins-a
The following points sum up the functioning of phase which continued well into the last century

Self-Help Groups. (a) Why is money called a medium of exchange?

(a) Typically, a SHG has 15-20 members belonging () Because it acts as an intermediate in
to one neigbourhood. They meet and pool their the exchange process.
savings regularly. Savings per member may (i) Because it is made of precious metal.
member. Because it is a thing of everyday use
(ii)
vary as per the capacity of the
(iv) None of the above
(b) The group advances loan to its members at a

nominal interest rate without any collateral. (b) What does the modern forms of money
(c) Most of the important decisions regarding include?
and loan activities are taken by the () Paper notes
savings
(i) Coins
group members themselves. The group decides
whether loan is to be granted or not, purpose, (iin) Demand deposits
amount, interest to be charged, repayment (iv) All of the above
schedule etc. (c) Who issues currency notes in India on behalf
(d) It is the group that is responsible for the of the central government?
repayment of the loan. In case of non- ) Planning Commission
repayment by any member, all the members (i Reserve Bank of India
seriously follow up the repayment. (ii) State Bank of India
(e) The regular meetings of the group provides (iv) Home Ministry
as
a platform to discuss and act on a variety of (d) Which of the following objects were used
social issues such as health, nutrition, domestic money in ancient times in India?
violence, etc. ) Grain

84. Describe the advantages of Self-Help Groups for (i) Cattle

the poor. (i) Both () and (ii)
Ans. The advantages of Self-Help Groups for the poor (iv) Cheque
Ans. (a) (i), (6) (iv), () (i), ()(ii)
are