Central banking what is central banking system? Before the world war first there was only a few countries which had their own central banks. After the war, the number of central banks has increased and now there is no single country in the world which does not have its own central bank. Assets structure: the assets structures of the central bank differ from country to country. In some countries, the central banks are nationalized. e.g Bank of France (1800), Reserve Bank of India (1947) are nationalized. They are owned and operated by their governments. The Federal Reserve system of America (1914) and Netherlands (1814) are private banks. The bank of Japan and State bank of Pakistan (1948) had mixed ownership. The Government owned 51% of the share capital of SBP and 49% was held by the public. Now it is fully state owned after the nationalization of banks in 1974. Organization: the organization of the central banks are also not the same. For example, the organization of Federal reserve system comprises five agencies or group of agencies: The Board of Governors

The Federal Open Market Committee The Federal Advisory Council The Federal Reserve Banks and their branches Member Banks of Federal Reserve System. FUNCTIONS OF A CENTRAL BANK The important functions of a central bank are as follows. Sole right of note issue. the printing and issue of currency notes is one of the important functions of central bank. The right of note issue is regulated by law, the requirements of the business and in the best interest of the country. It brings uniformity in the system of note issue. It exercises better control over the money supply in the country. It enables central bank to control the lending operations of the commercial bank. Banker’s Agent and Adviser to the government. the central bank acts as banker agent and adviser to the government. As Banker to the government, it receives deposits, cheques and drafts deposited in the government account. It makes short term advances to the government.

It provides foreign exchange to government for the purchase of foreign goods, repaying external debts etc. As financial agent, it collects taxes and other payments on behalf of the government. It also manages exchange stabilization funds. As Adviser: to the government, it gives advice on all monetary and financial matters such as deficit financing, foreign exchange policy etc. Banker to commercial banks. As banker to commercial banks, the central bank performs the following functions. It hold cash reserves and deposits of commercial banks. it rediscounts the bills of exchange of commercial banks to cover temporary difficulties. 4. Clearing Agent. As the custodian of the cash reserves of commercial banks, the central bank acts as a clearing house for commercial banks. As all schedule banks have their accounts with the central bank against each other with least use of cash.

6. Lender of the last resort: 5. Controller of credit. The central bank is entrusted to regulate the volume of credit and currency in the country. In order to achieve this objective, it uses various policy tools such as required reserve ratios, discount rate, open market operations etc. 6. Lender of the last resort: The central bank is the supreme bank of the country. If the commercial banks are at any time in need of money and are not able to meet their financial requirements from any other source, they can approach the central bank for financial accommodation. The central bank as lender of last resort provides financial help to the commercial bank by rediscounting their bills of exchange.

7. Custodian of foreign exchange reserves. The central bank acts as custodian of foreign exchange reserves. As custodian, It helps the central bank to correct adverse balance of payments, Check flight of capital from the country, Stabilize exchange rate, Paying off external debts, The exchange rate determination etc. 8. Development role: In the developing countries of the world, the central bank besides performing the traditional functions also performs developmental and promotional functions. The central bank undertakes the responsibility of economic growth with stability in the economy. It ensures that the funds available flow to the various priority sectors such as agricultures, expert sector, small scale sector etc.

9. Other functions. it maintains relations with international agencies such as IMF, word bank etc. It provided training facilities to the staff working in various banking institutions. It conducts seminars, surveys and publishes annual reports giving real economic picture of the economy.

Monetary Policy What is monetary policy? According to Professor Spencer. “Monetary policy is the deliberate exercise of the monetary authority’s power to induce expansion or contraction in the money supply” According to G.K Shaw, by monetary policy is meant “any action undertaken by the monetary authorities to change the quantity, availability and interest rate of money”. Objectives of Monetary policy: Promoting higher employment Steady economic growth Stable price level Interest rate stability Stability of financial market Stability in foreign exchange markets.

Tools of monetary policy Instruments of monetary policy: The main tools or weapons available to the central bank for influencing the level of economic activity in a country are as follows: Quantitative Controls. (b) Qualitative Controls Open Market Operations. 1. varying Marginal Requirements. Variation in the bank Rate. 2. consumer’s Credit Regulation. Credit Rationing 3. Use of Moral Persuasion. Varying Reserve 4. Direct Action. Requirements Quantitative Instruments. 1. Open Market Operations. When ever there is inflation in the country the central bank issues the bond and securities and sale it in the market to reduce the consumption in the country. And vice versa. The open market purchase of government securities by the central bank of the country are expansionary and the sale of government securities are contraction policy.

Changing the discount rate Changing the discount rate. The central bank give loans to commercial bank on rediscounting bills of exchange or on other securities so to reduce the money supply in the country the central bank increase the bank rate or the interest rate charged by the central bank to the commercial bank on loans. In this way the central bank discourage loan during inflation in the country. In case of deflation the case is other wise. Changing the legal reserve requirement: A central bank can affect the supply of money and the availability of bank credit in a country by changing the legal reserve requirement of the commercial banks. If there is a recession in the country, the central bank decreases the required reserve ratio of the economy, the central bank decreases the required reserve ratio of the member banks. It permits banks to lend more money and thereby enlarge the money supply. In case the economy is inflationary, the central bank can increase the reserve requirements of the banks. The lending power of the banks is reduced which ultimately results in decrease of the money supply.

Credit rationing. This method of credit control is applied by the central bank in time of financial crisis. The central bank rations the credit of each member bank. It fixes the maximum amount which each member bank can draw by rediscounting bills of exchange.