Question

Define central bank and explain its main functions in detail.

Answer 1

Answer:

Central Bank = A government monetary authority that issues currency and regulates the supply of credit and hold the reserve of other banks and sells new issues of securities for the government.

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Answer 2

Explanation:

Central Bank:

A national bank that provides financial and banking services for its country's government and commercial banking system, as well as implementing the government's monetary policy and issuing currency.

Functions:

1. Issue of Currency:

The central bank is given the sole monopoly of issuing currency in order to secure control over volume of currency and credit. These notes circulate throughout the country as legal tender money. It has to keep a reserve in the form of gold and foreign securities as per statutory rules against the notes issued by it.

2. Banker to Government:

Central bank functions as a banker to the government—both central and state governments. It carries out all banking business of the government. Government keeps their cash balances in the current account with the central bank. Similarly, central bank accepts receipts and makes payment on behalf of the governments.

3. Banker’s Bank and Supervisor:

There are usually hundreds of banks in a country. There should be some agency to regulate and supervise their proper functioning. This duty is discharged by the central bank.

4. Controller of Credit and Money Supply:

Central bank controls credit and money supply through its monetary policy which consists of two parts—currency and credit. Central bank has monopoly of issuing notes (except one-rupee notes, one-rupee coins and the small coins issued by the government) and thereby can control the volume of currency.

5. Exchange Control:

Another duty of a central bank is to see that the external value of currency is maintained. For instance, in India, the Reserve Bank of India takes steps to ensure external value of a rupee. It adopts suitable measures to attain this object. The exchange control system is one such measure.

6. Lender of Last Resort:

When commercial banks have exhausted all resources to supplement their funds at times of liquidity crisis, they approach central bank as a last resort. As lender of last resort, central bank guarantees solvency and provides financial accommodation to commercial banks (i) by rediscounting their eligible securities and bills of exchange and (ii) by providing loans against their securities. This saves banks from possible failure and banking system from a possible breakdown. On the other hand, central bank, by providing temporary financial accommodation, saves the financial structure of the country from collapse.

7. Custodian of Foreign Exchange or Balances:

It has been mentioned above that a central bank is the custodian of foreign exchange reserves and nation’s gold. It keeps a close watch on external value of its currency and undertakes exchange management control. All the foreign currency received by the citizens has to be deposited with the central bank; and if citizens want to make payment in foreign currency, they have to apply to the central bank. Central bank also keeps gold and bullion reserves.

8. Clearing House Function:

Banks receive cheques drawn on the other banks from their customers which they have to realise from drawee banks. Similarly, cheques on a particular bank are drawn and passed into the hands of other banks which have to realise them from the drawee banks. Independent and separate realisation to each cheque would take a lot of time and, therefore, central bank provides clearing facilities, i.e., facilities for banks to come together every day and set off their chequing claims.

9. Collection and Publication of Data:

It has also been entrusted with the task of collection and compilation of statistical information relating to banking and other financial sectors of the economy.