MONEY AND CREDIT

MS. SHILPY ARORA

MONEY AS A MEDIUM OF EXCHANGE

DEFINE MONEY: Money is anything which has common acceptability as a means of exchange, a
measure and a store of value.

BARTER SYSTEM: A system where goods are directly exchanged, without the use of money, is
called barter system. In Barter system double coincidence of wants is an essential feature.

DOUBLE COINCIDENCE OF WANTS: Under double coincidence of wants, both parties have to
agree to sell and buy each other’s commodities. For eg. Owner of good X, says shoes, to find
someone else with good Y, say a bag of wheat, and both in need of each other’s good.

Q1.LIMITATIONS OR DRAWBACKS OF BARTER SYSTEM

● Two people with different needs and goods must be there to satisfy each other’s needs.
● There are many products which can’t be divided.
● Evaluation of goods is very difficult.
● Barter system is time consuming.

MEDIUM OF EXCHANGE: Money is used for selling and purchasing of commodities. It acts as an
intermediate in the exchange process and therefore, is called a medium of exchange.

Q2. How does money solve the problem of double coincidence of wants? Explain with an
example of your own. (NCERT Q2)

Ans. Money solves the problem of double coincidence of wants because it acts as an
intermediate in the exchange process. People may purchase anything with money. There is no
need to have any goods or commodities for exchange. For example, a person is working as an
engineer in a government department. He gets salary from his office. With that money (salary)
he purchases different goods from the market according to the requirements of his family. He
makes payment in cash and does not need any product for exchange as required under the
double coincidence of wants. Thus, money acts as an intermediate in the exchange process.

MODERN FORMS OF MONEY: Paper notes, coins and plastic money.

OBJECTS USED AS MONEY IN INDIA BEFORE THE INTRODUCTION OF COINS: Food grains and
cattle.

METALS USED FOR MAKING COINS IN INDIA IN LATER STAGES: Gold, silver and copper.

Q3. Why money/rupee is accepted as a medium of exchange?

Money is accepted as a medium of exchange because the currency is authorised by the

government of the country.
In India, RBI issues currency notes on behalf of the central government. As per Indian law, no
individual or organisation is allowed to issue currency. Moreover, the law legalises the use of
rupee as a medium of payment that cannot be refused in settling transactions in India. No one
in India can legally refuse a payment made in rupees. Hence, the rupee is widely accepted as a
medium of exchange.

DEPOSITS WITH THE BANK

Reasons to deposit money with Bank: People don’t need all the money for their needs. They
keep some money in cash with them for their daily requirements. Rest of the money is kept in
banks as deposits. They open an account and keep extra cash in the bank which pay an interest
rate on the deposits. People earn interest on their extra cash. Another benefit of deposits is
that their money is safe in the bank. There is no fear of theft.

Withdrawal from the Deposits: People can withdraw money from their deposits as and when
required.

Modes of withdrawal: The money can be withdrawal on demand in cash by withdrawal slip by
the depositor himself or it can be withdrawn by cheque.

Demand Deposits: Since the deposits in the bank account can be withdrawn on demand, these
deposits are called demand deposits.

Payment by cheque: The account holder gets facility of issuing cheques. This facility enables a
person to make payments by cheques without the use of cash.

Q4.EXPLIAN THE PROCEDURE INVOLVED IN THE ISSUING OF A CHEQUE

For making payment through a cheque

● The payer, who is an account-holder with the bank, issues from his cheque book for a
specific amount.
● The cheque instructs the bank to pay a specific amount from the depositor’s account to
the person or instruction, in whose name it has been issued.(What is a cheque?)
● The money is, then, transferred from one bank account to another bank account in a
day or two and the transaction is complete without any payment of cash.

LOAN ACTIVITIES OF BANKS

Q5. How do banks mediate between those who have surplus money and those who need
money? (NCERT Q3)

Ans. Banks keep only a small proportion of their deposits as cash with themselves. For example
banks in India these days hold about 15% of their deposits as cash. This is kept as provision to
pay the depositors who might come to withdraw money from the bank on any given day. Banks
make use of the deposits to meet the loan requirements of the people. In this way, banks
mediate between those who have surplus funds (depositors) and those who are in need of
these funds (borrowers).
Q6. What is the main source of income of a Bank?

Ans. Banks charge a higher interest rate on loans than what they offer on deposits. The
difference between what is charged from borrowers and what is paid to depositors is their
main source of income.

TWO DIFFERENT CREDIT SITUATIONS

Q7. Describe two different credit situations where credit plays a positive role and negative
role.

Ans. Credit and a positive role: A trader obtains to meet the working capital needs of
production. The credit helps him to going expenses of production, complete production on time
and thereby increase his earnings. In such a situation credit plays a positive role.

Credit and a negative role: A farmer takes a loan to meet the expenses of cultivation hoping
that there would be good harvest and he would repay the loan. The harvest, however, fails and
the farmer is unable to repay the loan. Next year again he takes loan but the crop is not very
good. He again is not in a position to repay the loan. So he has no option but to sell a part of his
land to pay off the debt.

Thus, in one situation credit helps to increase earnings and the person is better off than before.
In the second situation credit pushes the person into a debt trap and he has to sell a part of his
land.

Q8. Analyse the role of credit for development. (NCERT Q9)

Ans. 1.Development is sustained by a proper credit policy.

2. By giving loans to industries and trade, banks provide them with the necessary funds for
carrying on their business without problems. This results in increased production and services,
more employment and profits.

3. Caution is required by the lenders when high risks are expected, so that there are no losses.

4. Credit from the formal sector needs to be increased, as loans from the informal sector gives
more loans so that borrowers are not exploited by informal sector moneylenders and the
results will definitely contribute to national development.

Q9.In situations of high risks, credit might create further problems for borrower. Explain.
(NCERT Q1)

1. It is true in situations of high risk credit might create problems for the borrower. For eg. If a
small farmer takes a loan to meet the expenses of cultivation, hoping that his harvest would
help repay the loan and his crops fail due to shortage of rain or any other reason, he will be
unable to repay the loan.
2. In such cases, a small farmer has to sell a part of his land to repay the loan depends on good
harvest that in turn depends on good rain, pesticides and other factors.

3. Failure of crops creates further problems for the borrower. Credit doesn’t improve his
earning but leaves him worse off than before.

4. Credit in high risk situation pushes the borrower into debt trap, a situation from which
recovery is very painful.

TERMS OF CREDIT

Collateral: It is an asset that the borrower owns (such as building, vehicle, livestock, deposits
with banks) and uses this as a guarantee to a lender until the loan is repaid.

Terms of Credit: Interest rate, collateral and documentation requirement and the mode of
repayment together comprise terms of credit.

Q10. Why do lenders ask for collateral while lending?

Ans. Lenders ask for collateral as security against loans . If the borrowers fails to repay the loan,
the lender has a right to sell the assets or collateral to obtain payment.

Q11. What are the Various sources of credit in rural areas:

● Agricultural traders
● Moneylenders
● Commercial banks
● Cooperative societies
● Relatives and Friends

Q12. How do the cooperatives provide loan?

1. Members of a cooperatives pool their resources for co-operation in certain areas.

2. There are several types of cooperatives.

3. They accept deposits from their members. With these deposits as collateral, the cooperatives
have obtained a large loan from the bank.

4. These funds are used to provide loans to members. Once these loans are repaid another
round of lending can take place.

FORMAL SECTOR CREDIT IN INDIA

Q13. What are the differences between Formal and Informal sector credit?

FORMAL SECTOR CREDIT INFORMAL SECTOR CREDIT

1. They cover those sources of credit which 1. They include those small and scattered units
are registered by the government and have to which are largely outside the control of
follow its rules and regulations. These are government. They are traders, moneylenders,
banks and cooperatives. employers etc.
2. The RBI supervises the functioning of formal 2. There is no organisation which supervises
sources of credit. the credit activities of lenders in the formal
sector.
3. Proper terms of credit like collateral, 3. Terms of credit are flexible for the personal
documentation, rate of interest and mode of benefit of the lenders and pitiable condition of
payment are followed. borrowers.
4. They generally charge lower rate of interest. 4. They charge much higher rate of interest on
5. They do not impose any unfair condition. loans.
5. They impose many tough conditions apart
from high rate of interest.
Q14. In what ways does the Reserve Bank of India supervise the functioning of banks? Why is
this necessary? (NCERT Q8)

Ans. The reserve bank of India is the apex bank of the country, supervising the supervising the
functioning of formal sources of credit as:

● It monitors that the banks maintain the required cash balance with them.
● It supervises that the banks give loans not just to profit-making businesses and trade but
also to small cultivators, small-scale industries, small borrowers etc.
● Necessary: It is mandatory for the banks to submit information to RBI periodically on
how much they are lending, at what interest rate and to whom.

Q15. Why should credit at reasonable rates be available for all?

1. Credit at reasonable interest rates should be available for all so that they may increase their
income and help in the overall development of the country.

2. High interest rate do little to increase the income of the borrowers. Thus it is necessary that
the banks and cooperatives increase their lending particularly in rural areas so that the
dependence of the people on informal sources of credit reduces.

3.In addition to this more credit should be given to the poor to get maximum benefit from the
cheaper loans. This will help in increasing their income as well as their standard of living.

Q16. Why is cheap and affordable credit important for country’s development? Explain with
reasons.

Ans. Cheap and affordable credit is crucial for a country’s development because:

1. More lending would lead to higher incomes and encourage people to invest in
agriculture, engage in business and set up small industries.
2. Cheap credit will enable more investment. This leads to acceleration of economic
activity.
3. Cheap credit would also allow weaker sections of society to access formal sector of
lending and get rid of from informal moneylenders.
 4. Affordable credit would also end the cycle of dept trap.
5. Cheap and easy terms of credit would inspire better investment in technology and thus
increase competition.

Q17. Why do we need to expand formal sources of credit in India? (NCERT Q5)

Ans. We need to expand formal sources of credit in India due to the following reasons:

1. Formal sources offer cheap loans, which results in higher incomes and higher profits and
help in the expansion of business.
2. Credit can be distributed more equally, benefitting the poor with the help of cheaper
loans.
3. In the rural areas where people have to rely on informal sources, this can help farmers
to take up agricultural and non-agricultural activities, small-scale industries etc.
4. These sources of loans are under the supervision of a centralized agency, i.e, Reserve
Bank of India.
5. Banks and cooperatives charge less interest and do not exploit the borrowers. Under
these circumstances, there is need for expansion of formal sources of credit in India.

Q18. What are the reasons why the banks might not be willing to lend to certain borrowers?

Ans. Because:

1. Banks require proper documents and collateral as security against loans. Some
borrowers fail to meet these requirements.
2. Borrowers who have not repaid previous loans (i.e., defaulters), the banks might not be
willing to lend them further.
3. Banks might not be willing to lend to those entrepreneurs who are going to invest in the
business with high risks.
4. One of the principal objective of the bank is to earn more profits. It has to pay salary to
the staff and meet other expenses.

SELF-HELP GROUPS FOR THE POOR

Q19. What is the basic idea behind SHGs for the poor? (NCERT Q)

Ans. The basic idea behind SHGs for poor is to organise rural poor, in particular women into
small self help groups and pool (collect) their savings.

1. A typical SHG has 15-20 members, usually belonging to one neighbourhood, who meet
and save regularly.
2. Saving per member varies from 25-100 or more depending on the ability of people to
save.
3. Members can take small loans from the group itself to meet their needs.
4. The group charges interest on these loans but this is still less than what moneylenders
charges.
5. After one or two years, if the group is regular in savings, it becomes eligible for availing
loan from the bank.
6. Loan is sanctioned in the name of the group and is meant to create self-employment
opportunities for the members.
7. The SHGs help borrower overcome the problem of lack of collateral.
8. They can get timely loans for a variety of purposes and at a reasonable interest rate.
9. SHGs are the building blocks of organisation of the rural poor. Not only does it help
women to become financially self-reliant, the regular meetings of the groups provide a
platform to discuss and act on a variety of social such as health, nutrition, domestic
violence etc.