Economics Test - 8

The correct answer is has no intrinsic value.

 Key Points

• Fiat money is a government-issued currency that is not backed by a commodity such as gold.
• Fiat money gives central banks greater control over the economy because they can control how much money is printed.
• Most modern paper currencies, such as the U.S. dollar, the British Pound, the euro, the Indian Rupee etc., are fiat currencies.
• One danger of fiat money is that governments can print too much of it, resulting in hyperinflation. 

The correct answer is Currency with public + Cash Reserves of Banks.

Key Points

• High Powered Money: The total liability of the monetary authority of the country, RBI, is called the monetary base or high-powered money.
• It consists of currency (notes and coins in circulation with the public and vault cash of commercial banks) and deposits held by the Government of India and commercial banks with RBI.
• If a member of the public produces a currency note to RBI the latter must pay her value equal to the figure printed on the note. Similarly, the deposits are also refundable by RBI on-demand from deposit-holders.
• These items are claims which the general public, government or banks have on RBI and hence are considered to be the liability of RBI. RBI acquires assets against these liabilities.
• This can be understood by an example. Suppose RBI purchases gold or dollars worth Rs 5. It pays for the gold or foreign exchange by issuing currency to the seller. The currency in circulation in the economy thus goes up by Rs 5, an item that shows up on the liability side of the balance sheet. The value of the acquired assets, also equal to Rs 5, is entered under the appropriate head on the Assets side.
• Similarly, RBI acquires debt bonds or securities issued by the government and pays the government by issuing currency in return. It issues loans to commercial banks in a similar fashion.
• However, the most important role of RBI is as the controller of money supply and credit creation in the economy.
• RBI is the independent authority for conducting monetary policy in the best interests of the economy – it increases or decreases the supply of high-powered money in the economy and creates incentives or disincentives for the commercial banks to give loans or credits to investors.
• Hence, the correct option is Currency with public + Cash Reserves of Banks.

• Gresham's law is related to Circulation of currency which states that "bad money drives out good money".
• Gresham's law states that any circulating currency consisting of both "good" and "bad" money quickly becomes dominated by the "bad" money.

The correct answer is option 3, i.e., Commercial paper Rate

• Commercial paper is a commonly used type of unsecured, short-term debt instrument issued by corporations, typically used for the financing of payroll, accounts payable and inventories, and meeting other short-term liabilities. Maturities on commercial paper typically last several days, and rarely range longer than 270 days. Commercial paper is usually issued at a discount from face value and reflects prevailing market interest rates. 

• The key indicators of RBI Monetary Policy along with their current rates (August 2020) in the table given below:

  Indicator	Current Rate
  CRR	4.5%
  SLR	18.00%
  Repo Rate	5.40%
  Reverse Repo Rate	3.35%
  Marginal Standing Facility Rate	5.65%
  Bank Rate	5.65%

Explanation:

• Monetary Policy Committee (MPC) 2016 was established for Inflation targeting.
• It is a 6-member Committee with term of 4 years, having 5 members plus Reserve Bank governor as the chairman.
• The government will nominate 3 non-government people on the recommendation of a search committee.
• The decision will be by majority and each member will have to state the reasons for the vote.
• Each member would have one vote and the Reserve Bank Governor will have a casting vote in the event of a tie in any situation but no veto.

The correct answer is Marginal Standing Facility.

Key Points

• Marginal Standing Facility (MSF):
  • A facility under which scheduled commercial banks can borrow an additional amount of overnight money from the Reserve Bank by dipping into their Statutory Liquidity Ratio (SLR) portfolio up to a limit at a penal rate of interest.
  • This provides a safety valve against unanticipated liquidity shocks to the banking system.

Additional Information

• Cash Reserve Ratio (CRR):
  • The average daily balance that a bank is required to maintain with the Reserve Bank as a share of such percentage of its Net demand and time liabilities (NDTL).
• Repo Rate:
  • The (fixed) interest rate at which the Reserve Bank provides overnight liquidity to banks against the collateral of government and other approved securities under the liquidity adjustment facility (LAF).
• Bank Rate :
  • It is the rate at which the Reserve Bank is ready to buy or rediscount bills of exchange or other commercial papers.
  • This rate has been aligned to the MSF rate and, therefore, changes automatically as and when the MSF rate changes alongside policy repo rate changes.

The correct answer is  Regional Rural Bank

Key Points

• The scheduled commercial banks are banks which are included in the second schedule of RBI Act 1934 and have paid up capital and reserves of at least Rs. 50 Lakh and satisfy the CRAR norms and other prudential norms of RBI. These include 4 groups: Public sector banks, Private sector banks, Private sector foreign Banks and Regional Rural Banks.
• Cooperative banks falls under scheduled bank if mentioned in second schedule, but, does not fulfill the criteria of a commercial banks.
• NABARD established in 1982 is apex development finance institution completely under the Government of India and not RBI. Its functions include policy, planning, and operations in the field of credit for agriculture and other economic activities in rural areas in India.

The correct answer is Option 2.

Key Points

• Demand deposits are so called because the bank does not impose any restriction on its withdrawal with respect to time and therefore, the interest offered on them is relatively lower than other forms of deposits like Fixed Deposits.

The correct answer is M3.

Key PointsMonetary aggregate:

• A monetary aggregate is a formal way of accounting for money, such as cash or money market funds.
• It is used to measure the money supply in a national economy.
• The monetary base is an aggregate that includes the total supply of currency in circulation plus the stored portion of commercial bank reserves within the central bank.
• The total stock of money in circulation among the public at a particular point in time is called money supply.
• It needs to be noted that the total stock of money is different from the total supply of money.
• Supply of money is only that part of the total stock of money that is held by the public at a particular point in time.
• The circulating money involves the currency, printed notes, money in the deposit accounts, and in the form of other liquid assets.
• RBI publishes figures for four alternative measures of money supply, viz. M1, M2, M3, and M4.
  • M1 = CU + DD
  • M2 = M1 + Savings deposits with Post Office savings banks
  • M3 = M1 + Net time deposits of commercial bank.
  • M4 = M3 + Total deposits with Post Office savings organizations (excluding National Savings Certificates)
• M1 and M2 are known as narrow money.
• M3 and M4 are known as broad money.
• These gradations are in decreasing order of liquidity.
• M1 is the most liquid and easiest for transactions whereas M4 is the least liquid of all.
• M3 is the most commonly used measure of the money supply.
  • It is also known as aggregate monetary resources. Hence option 3 is the correct answer.
• M3 can be thought of as a congregation of all the other classifications of money (M0, M1, and M2) plus all of the less liquid components of the money supply.

State Bank of India is the largest commercial bank in India.

Important PointsCommercial bank:

• A commercial bank is a kind of financial organization that carries all the operations related to the deposit and withdrawal of money for the general public, providing loans for investment, etc.
• These banks are profit-making organizations and do business only to make a profit.

Key Points

State Bank of India:

• SBI is India’s largest public sector bank and is ranked 232nd on the Fortune Global 500 list of the world’s biggest corporations.
• The bank is also the country’s biggest lender.
• It recently joined the list of top 50 banks globally in terms of asset distribution, following its merger with other associate banks:  
  • State Bank of Travancore (SBT)
  • State Bank of Patiala (SEP)
  • State Bank of Mysore (SBM)
  • State Bank of Hyderabad (SBH)
  • State Bank of Bikaner and Jaipur (SBBJ)
• The headquarters of this bank is situated in Mumbai, Maharashtra.
• The State Bank Of India is a public sector bank.

Hence, the correct answer is the State Bank of India.