Saturday, February 03, 2018

AHSEC Class 12: Banking Solved Question Paper' 2015

AHSEC – Banking Previous year’s Question papers
Banking – 2015
Full Marks: 100
Pass Marks: 30
Time: Three hours
The figures in the margin indicate full marks for the questions.
1. Answer as directed:                                                                                   1x8=8
a) What was the previous name of State Bank of India?
Ans: Imperial Bank of India
b) Which method is adopted by the Reserve Bank of India for issuing notes?
Ans: Minimum Reserve System
c) What is Mutual Fund?
Ans: Mutual Funds: A mutual fund is an institutional device through which the investors pool their funds to invest in a diversified portfolio of securities. The fund is termed as “Mutual” because all the profit & losses of the fund are shared by the investors in proportion to their investments.             
d) The IMF came into existence in the year Dec’1945. (Fill in the gap)
e) Write the full form of SIDC.
Ans: State Industrial Development Corporation
f) Give an example of Negotiable instrument.

Ans: Bills of Exchange
g) Governor of RBI is appointed for a period of 4/5/10 years. (Choose the correct answer)
Ans: 5 Years
h) What is bank rate?
Ans: Bank rate or discount rate is the rate at which the Central Bank of a country makes advances to the banks against approved securities or rediscounts the eligible bills.
2. Name any two Central banking functions performed by the State Bank of India.          2
Ans: Central banking functions of SBI
a)      Banker to the Government and
b)      Banker’s Bank
3. What is full reserve system of note issue?                                     2
Ans: The simple deposit system is also knows as full reserve system. Under this system, the Central Bank is required to keep 100% of metal, either gold or silver or both as reserve for every note issued. The notes so issue becomes representative paper money.
4. Name two sub-market of Indian money market.                          2
Ans: Call money market and bill market
5. Who is collecting banker?                                                                      2
Ans: A collecting banker is one who collects the cheques and other negotiable instruments deposited by his customers and places the amount to the credit of the customers account. A collecting banker acts as an intermediary between the paying banker and his customer in collecting the proceeds of a cheque from the paying banker and crediting the same to the customer’s account.
6. Define holder under sec-8 of the Negotiable Instrument Act, 1881.                                    2
Ans: Ans: According to Section 8 of the Negotiable Instrument Act, 1881, “Holder of a promissory note, bills of exchange or cheque means any person entitled in his own name to the possession thereof and to receive or recover the amount due thereon from the parties there to.”
7. Briefly explain the agency services rendered by commercial banks.                                   3
Ans: Agency functions: These functions are performed by the banker for its own customer. For these bank changes certain commission from its customers. These functions are:
a)      Remittance of Funds: Banks help their customers in transferring funds from one place to another through cheques, drafts etc.
b)      Collection and payment of Credit Instruments: Banks collects and pays various credit instruments like cheques, bill of exchange, promissory notes etc.
c)       Purchasing and Sale of securities: Banks undertake purchase and sale of various securities like shares, stocks, bonds, debentures etc. on behalf of their customers.
8. State the meaning of Non-Bank Financial Institutions with example.                                                3
Ans: Non-Banking Financial Institutions (NBFI’s): NBFI’s include such institution such as life-insurance companies, mutual savings bank, pension funds, building societies etc. which are doing diverse business. These financial institutions are thus a heterogeneous group of financial institutions other than commercial banks and co-operative societies. They include a wide variety of financial institutions, which raise funds from the public, directly or indirectly, to lend them to ultimate spenders.
9. Write a brief note about stock exchange.                                                                                        3
Ans: Secondary market also called stock exchange represents a market where existing securities i.e. shares and debentures are traded. Its main function is to create a link between the buyers and sellers of securities so that investments can change hands in the quickest and cheapest manner.
According to Securities Contract (Regulation) Act, 1956, the term stock exchange has been defined as, “an association, organisation or body of individuals, whether incorporated or not, established for the purpose of assisting, regulating and controlling business in buying, selling and dealing in securities.”
Thus, a stock market is a market where dealings in the listed securities are made by the members of the exchange on their own behalf or on behalf of others.
Or
Write a brief note on Money Market.
Ans: Money market deals in cash or near money or liquid assets of short-term nature. It also trade in bills, promissory notes, government papers. Money market is essentially concerned with lending and borrowings of cash and also the buying and selling of assets which are close substitutes for money and can be easily converted into money within a short period. The dealers in money market consists of the government, banks, commercial and industrial concern, stock exchange brokers etc.
Features of Money Market: The salient features of money market are as follows:
a)      Flow of short-term funds: The money market brings together the lenders who have surplus funds for short-term and the borrowers who are in need of short-term funds.
b)      Role of brokers: Dealings in money market may be conducted with or without the help of brokers or intermediaries.
c)       Sub-markets: Money market consists of many sub-markets such as inter-bank call money market, treasury bills market, bills discounting market etc.
10. State the conditions for dishonor of cheque.                                                                                              3
Ans: Ans: The bank may dishonour a cheque for the following cases.
a)      When the cheque is post dated and it is presented for payment before the date it bears.
b)      When there are insufficient funds to the credit of the drawer.
c)       When the cheque is presented for payment at branch where the drawer of the cheque has no account.
d)      When a cheque is not duly, presented, as for example a cheque presented outside banking hours.
e)      When the cheque is ambiguous, mutilated, materially altered or irregular.
f)       When the cheque has become stale, that is it is not presented within six months of the issue of the cheque.
Or
Explain the meaning of the term ‘material alteration’ of cheque with illustrations.
Ans: An alteration is considered as material alteration if it affects the operation of the instrument substantially and the liability of the parties concerned is changed significantly. Any change in an instrument which causes to speak a different language in legal effect from that which it originally spoke or which changed the legal identity or character of the instrument either in its terms or in the relation of parties thereto is a material alteration.
Examples of material alterations are as follows:
a)      Alteration of the date of the cheque.
b)      Alteration of the place of payment.
c)       Alteration of amount of the cheque.
11. State any three differences between promissory note and cheque.                                                3
Ans: Difference between Promissory Note and Cheque:
Basis
Promissory Note
Cheque
Nature
It is an unconditional promise by the maker to pay the money.
It is an unconditional order to the bank to pay certain sum of money.
Days of Grace
Three days of grace are allowed for payment.
No days of grace are allowed for payment.
Crossing
A promissory note cannot be crossed.
A cheque can be crossed.
Or
Draw a specimen copy of a promissory note.
Specimen of Promissory Note
Mr. X
Rs.50,000
Assam
April 01,2015
Three months after date I promise to pay Mr. Y or order a sum of Rupees Fifty Thousand only for value received.
STAMP

To,
Mr. Y
Dibrugarh, Assam
Mr. X
Tinsukia, Assam
12. What are the main objectives of International Monetary Fund?                                        5
Ans: The objectives of I.M.F are:
a)      To promote international economic and financial co-operation amongst member countries. 
b)      To promote exchange stability and avoid currency devaluation.
c)       To promote the international trade by removing all obstacles.
d)      To promote investment of capital in backward and undeveloped countries.
e)      To make financial resources available to members.
f)       To seek reduction on payment imbalances.
g)      To elimination or reduction of existing exchange control.
13. Explain the five function of State Bank of India.                                                                                         5
Ans: As an agent of RBI, the SBI also performs certain Central Banking functions such as:
1)      Bankers to Government : As a Government banker the SBI performs the following functions:
a)      It maintains and operates deposit account of the central and state governments.
b)      It receives and collects payment on behalf of the Central and state governments.
c)       It makes payments on behalf of the central and state governments.
d)      It provides short term advances to government for which are called ways and means advances etc.
As a Government agent the SBI perform the followings functions:
1)      Collect tax and other payments on behalf of the government.
2)      Raise loan from the public and thus manages public debts.
3)      Transfer funds and provide remittances facilities to the government etc.
2)      Bankers Bank: As an agent of the RBI, SBI acts as a banker to all the other banks.
a)      Custodian of cash reserve of the bank: As an agent of the RBI, SBI acts as the custodian of cash reserve of the banks.
b)      Clearing agent: In India the central clearing functions is managed by the RBI or the SBI is authorized to manage clearing house functions every day. Each commercial bank receives a number of cheques for collection from other banks on account of their customers.
Other functions of the SBI as General Banks act
A) Primary functions:
a)      Acceptance of deposits: It is the most important function of a bank. Under this function, bank accept deposits from individuals and organizations and finances the temporary needs of firms.
b)      Making loans and advances: The second important function of banks is advancing loan. The commercial bank earns interest by lending money.
B) Secondary functions of a bank: This function is divided into two parts
1)      Agency functions: These functions are performed by the banker for its own customer. For these bank changes certain commission from its customers. These functions are:
d)      Remittance of Funds: Banks help their customers in transferring funds from one place to another through cheques, drafts etc.
Or
Discuss the main objectives and achievements of bank nationalisation in India
Ans: Nationalisation: Nationalisation of Banks refers to transfer of ownership and management of banks from private individuals and shareholders to the public authorities. In 1969, 14 banks were nationalized. Again in 1980, 6 more banks were nationalized. In 1993, New bank is merged will Punjab National Bank. So, there are 19 nationalized banks in our country at present.
Objectives of Nationalisation:
a)      Preventing concentration of economic powers in the hands of few.
b)      Provide banking facilities in rural areas.
c)       Mobilization of savings of rural areas.
d)      Help to the agriculture industry.
e)      Balanced regional development.
f)       Provide adequate financial assistance to the public and private sector industry whether big or small.
g)      Greater stability and control in banking sector.
Achievements of nationalisation:
a)      Expansion of Bank branches: There has been a rapid increase of bank branches after nationalization. Till the end of March, 2014 number of bank branches increases to 97,010.
b)      Growth of deposit: After nationalization the deposit occupied by banks was increased due to various branches in Rural, Semi-urban and urban areas.
c)       Advances to priority sectors: Priority sector includes Agriculture, small business, small scale industry etc. There has been greater emphasis on those sectors now.
d)      Correction of regional imbalances: After nationalization, steps have been taken to improve banking services in less developed states.
e)      Advance to Agriculture: The nationalized banks have given particular importance in providing credit to agriculturists.
f)       Investment in Govt. Securities: The nationalized bank has become a major source of finance for the Govt. These banks are required to invest a part of their funds in Govt. securities.
g)      Developmental role of banks: Nationalized banks focuses on not only making profit, but also works for the welfare and prosperity of the society.
14. Discuss about the institution participating in the Indian Money Market.                       5
Ans: Major Participants in the Indian Money Market is given below:
1) The Central Government: The Central Government is an issuer of Government of India Securities (G-Secs) and Treasury Bills (T-bills). These instruments are issued to finance the government as well as for managing the Government’s cash flow. T-bills and G-secs are issued by RBI on behalf of central bank to meet its short-term financial needs. Money market is regulated by RBI.
2) Commercial Banks: Commercial banks are major participants in money market. Certificate of deposits are issued by banks in money market. Then invest in government securities to maintain their statutory liquidity ratio. They also participate in call and term markets both as lenders and borrowers.
3) Life Insurance Companies: Life Insurance Companies (LICs) invest their funds in G-Sec, Bond or short term money markets. They have certain pre-determined thresholds as to how much they can invest in each category of instruments.
4) Mutual Funds: Mutual funds invest their funds in money market and debt instruments. The proportion of the funds which they can invest in any one instrument vary according to the approved investment pattern declared in each scheme.
5) Non-banking Finance Companies: Non-banking Finance Companies (NBFCs) invest their funds in debt instruments to fulfill certain regulatory mandates as well as to park their surplus funds. NBFCs are required to invest 15% of their net worth in bonds which fulfill the SLR requirement.
Or
Discuss the objectives and functions of NABARD.
Ans: The National Bank For Agriculture and Rural Development (NABARD), a developing bank, came into existence on July 12, 1982, under an Act of Parliament with an initial capital of Rs. 100 crores. It is an apex institution set up for providing and regulating credit and other facilities for the promotion and development of agriculture, small scale industries, cottage and village industries, handicrafts and other rural crafts and other allied economic activities in rural areas. The NABARD has taken over the functions of ARDC (Agricultural Refinance and Development Corporation) and refinancing functions of RBI in respect of co-operative banks and the RRBs.
a)      Integrated rural development is main objective of NABARD.
b)      To provide training and Research facilities for rural Development.
c)       To keep a check on all the projects which are refinanced by NABARD; through timely inspection, monitoring and evaluation.
d)      To Act as a coordinator and regulator for rural credit institutions.
e)      Promotion and development of agriculture, Small Scale industries, cottage and village industries, handicrafts and other rural crafts.
f)       To formulate rural credit plans on annual basis for all districts in country.

15. Who is a paying banker? State the precautions of banker should take before paying a cheque?         2+3=5
Ans: The term paying banker refers to the drawee banker who pays the amount of cheques to his customer. The paying banker is defined as the “banker to whom the order is made to pay, where the order is issued as the form of a cheque”.
The paying banker should take precautions on the following points:
a)      The cheque should be in proper format.
b)      The amount of the cheque must be certain and expressed both in words and figures.
c)       A banker is expected to known the signatures of his customers and signature must be verified before payment.
d)      Before honouring a cheque, the paying banker must see that there is no material alteration.
e)      The paying banker has to be very careful regarding the sufficiency of funds in the account of a customer on which a cheque is drawn.
16. Differentiate between cheque and bank draft.                                                                                          5
Ans: Distinction between bank draft and cheque:
a)      Bank Draft is payable in different cities, whereas Cheque is payable in same city it is prepared.
b)      Demand Draft is drawn on individuals also whereas Cheque is drawn on banks.
c)       Bank Draft or Demand Draft can be prepared for any station, whereas we need money. But a cheque is like a local draft, which can be encashed locally only.
d)      Bank Draft is always payable to order of a certain person, whereas cheque is payable either to order or to bearer.
e)      Charges levied when a draft is drawn but no charges levied at the time of issuing cheque.
f)       There are two parties in a bank draft – drawer and payee whereas in case of cheque there are three parties drawer, drawee and payee.
17. Mention five features or characteristics of Indian Capital Market.                                    5
Ans: Features of Indian Capital Market
a)      Dealing in Securities: It deals in long-term marketable securities and non-marketable securities.
b)      Segments: It included both primary and secondary market. Primary market is meant for issue of fresh shares and secondary market facilitates buying and selling of second hand securities.
c)       Investors: It includes both individual investors and institutional investors.
d)      Flow of capital: It facilitates flow of long term capital from those who have surplus capital to those who need capital.
e)      Intermediaries: It acts through intermediaries which includes bankers, brokers, underwriters etc.
18. Discuss the functions of Reserve Bank of India as banker for Government and commercial banks.    5
Ans: Bankers to Government :- The RBI acts as banker to the Central and State Government as a bankers as a adviser as a agent into there capacities :-
a)      As a bankers.
b)      As an agent.
c)       As an advisor.
As a Government banker the RBI performs the following functions:-
e)      It maintains and operates deposit account of the central and state governments.
f)       It receives and collects payment on behalf of the Central and state governments.
g)      It makes payments on behalf of the central and state governments.
h)      It provides short term advances to government for which are called ways and means advances etc.
As a Government agent the RBI perform the followings functions:-
4)      Collect tax and other payments on behalf of the government.
5)      Raise loan from the public and thus manages public debts.
6)      Transfer funds and provide remittances facilities to the government etc.
As an adviser the RBI acts as an advising the Government on all financial matters such as loan separations investment, agricultural and industrial finance, banking planning etc. It also advices to promote the attainment of the national economic goals.
Bankers Bank: The Central Bank is a banker to all the other banks. It is the supreme bank of all the banks. As the supreme bank it performs various functions. Some of the functions are:
c)       Custodian of cash reserve of the bank: The Central Bank acts as the custodian of cash reserve of the banks. Every Commercial bank has to keep a certain portion of their deposits and time and demand liabilities to the Central Bank in the form of cash reserves. The Central Bank maintains this cash reserve as the custodian and grants money to the commercial bank in times of emergency.
d)      Lender of the last resort: The Central Bank is the Lender of the last resort of the commercial banks. When the other banks shortage of funds, then they can approach to the Central Bank for financial assistance. The Central Bank lends money to them by discounting their bills. This enables the Central Bank to establish control over the banking system of the country. The RBI is ultimate source of money and credit provide fund to money market participate thus the RBI act as lender of last resort for the commercial banks.
e)      Clearing agent: In India the central clearing functions is managed by the RBI or the SBI is authorized to manage clearing house functions every day. Each commercial bank receives a number of cheques for collection from other banks on account of their customers. One bank may have to pay certain amount to another bank again the RBI will transfer fund from debtor to creditors account. Since all banks have their accounts with the RBI, the RBI can easily settle the claims of various banks each other with least use of cash.
19. Discuss the evolution and growth of commercial banking in India.                                   8
Ans: Ans: Pre-Independence: The General Bank of India was set up in 1786. Next came the Bank of Hindustan and Bengal Bank. The East India Company established Bank of Bengal (1809), Bank of Bombay (1840) and Bank of Madras (1843) as independent units and called them presidency Banks. These three banks were amalgamated in 1920 and the Imperial Bank of India, which started as private shareholders banks, was established with mostly European shareholders.
In 1865, the Allahabad Bank was established, and, for the first time, exclusively by Indians, Punjab National Bank Ltd. was set up in 1894 with headquarters at Lahore. Between 1906 and 1923, Banks of India, Central Bank of India, Bank of Baroda, Canara Bank, Indian Bank and Bank of Mysore were set up. The Reserve Bank of India (RBI) was established in 1935.
Post Independence: The government took major steps in the Indian Banking Sector Reforms after independence. In 1955, it nationalized the Imperial Bank of India (the State Bank of India Act) with extensive banking facilities on a large scale, especially in rural and semi-urban areas as the first phase of nationalization. It formed the State Bank of India (SBI) to as the principal agent of RBI and to handle banking transactions of the Union and the State Governments of the Country.
In 1969, seven subsidiary banks of the State Bank of India were nationalized as a major process of nationalization due to the effort of then Prime Minister Mrs. Indira Gandhi, Later in 1969, 14 Major Private Commercial Banks in the country were nationalized. Again in 1980, 6 more banks were nationalized. In 1993, New bank is merged will Punjab National Bank. So, there are 19 nationalized banks in our country at present.
PHASE III
The third phase of development of Indian banking introduced many more products and facilities in the banking sector in its reform measures. In 1991, under the chairmanship of M. Narsimham, a committee was set up under his name, which worked for the liberalization of banking practices.
Or
What is financial market? Mention the name of the various kinds of market. Explain any one of them. 2+2+4=8
Ans: Meaning of Financial Market: A financial market is an institution that facilitates exchange of financial instruments including deposits, loans, corporate stocks, government bonds, etc.
According to Brigham "The place where people and organizations wanting to borrow money, are brought together, with those having surplus funds is called a financial market".
This definition makes it clear that a financial market is a place where those who need money and those who have surplus money are brought together. They may come together directly or indirectly. Financial market in India performs an important function of mobilization of savings and channelizing them into most productive uses.
Types of Financial Markets
The financial market consists of two major segments
a) Money market
b) Capital market
Money market deals in cash or near money or liquid assets of short-term nature. It also trade in bills, promissory notes, government papers. Money market is essentially concerned with lending and borrowings of cash and also the buying and selling of assets which are close substitutes for money and can be easily converted into money within a short period. The dealers in money market consists of the government, banks, commercial and industrial concern, stock exchange brokers etc.
According to the RBI, "The money market is the centre for dealing mainly of short character, in monetary assets; it meets the short term requirements of borrowers and provides liquidity or cash to the lenders. It is a place where short term surplus investible funds at the disposal of financial and other institutions and individuals are bid by borrowers, again comprising institutions and individuals and also by the government."
Features of Money Market: The salient features of money market are as follows:
d)      Flow of short-term funds: The money market brings together the lenders who have surplus funds for short-term and the borrowers who are in need of short-term funds.
e)      Role of brokers: Dealings in money market may be conducted with or without the help of brokers or intermediaries.
f)       Sub-markets: Money market consists of many sub-markets such as inter-bank call money market, treasury bills market, bills discounting market etc.
g)      Reasonable access: Money market provides reasonable access to users of short-term funds to meet their requirements on reasonable terms or rates of interest.
h)      Source of working capital: Money market constitutes a major source of working capital finance.
 Functions of Money Market
The major functions of money market are given below:
(a)    To maintain monetary equilibrium.
(b)    To promote economic growth.
(c)    To provide help to Trade and Industry.
(d)   To help in implementing Monetary Policy.
(e)   To help in Capital Formation.
(f)     Money market provides non-inflationary sources of finance to government.
20. What is Negotiable Instrument? What are essential characteristics of Negotiable Instrument?         2+6=8
Ans: Negotiable instrument: Negotiable Instrument means a written document which is transferable by delivery. According to Section 13 of the Negotiable Instrument Act 1881, “A Negotiable Instrument means a Promissory Note, Bill of Exchange and Cheque, payable either to order or to bearer.
There are different kinds of negotiable instruments:
a) Negotiable Instruments by statue: Bills of Exchange, Promissory Notes and Cheques.
b) Negotiable Instruments by customs or usages: Treasury Bills, Dividend Warrants, Share Warrants, Bearer Debentures, Hundi.
The characteristics of a Negotiable Instrument are:
a)      Witting and Signature according to the rules: A Negotiable Instrument must be in writing and signed by the parties according to the rules relating to (a) promissory notes, (b) Bills of Exchange and (c) Cheques.
b)      Payable by Money: Negotiable Instruments are payable by the legal tender money of India.
c)       Unconditional Promise and order:  If the instrument is a promissory note, it must contain an unconditional promise to pay. If the instrument is a bill or cheque, it must be an unconditional order to pay money.
d)      Freely transferable:  A negotiable instrument is transferable from one person to another by delivery or by endorsement and delivery.
e)      Acquisition of Property:  Any person, who possesses a negotiable instrument, becomes its owner and entitled to the sum of money, mentioned on the face of the instrument.
f)       No Need of Giving Notice: There is no need of giving a notice of transfer of a negotiable instrument to the party liable to pay the money.
Or
Define Hundi. Discuss the different types of Hundi.
Ans: The word, “Hundi” has been derived from the Sanskrit word “hund” or “huna” which means to “collect”. A hundi is a traditional bill of exchange which is written in oriental languages.  A hundi may be defined as “a written unconditional order signed by the creditor, directing the debtor to pay a certain sum of money on demand or after a specified period to a person named therein”. It may be payable at sight or demand or at the expiry of a certain period.            (2012)
Types of Hundies:
1) Darshani Hundi: It is a type of hundi which is payable at sight or on demand.
2) Muddati Hundi: It is similar to a time of bill of exchange. It is payable after a specified period of time. It is also known as “Miadi Hundi.”
3) Shah-Jog Hundi: It is drawn by a merchant upon another asking the latter to pay the amount of the hundi to a shah – respectable person in the market.
4) Jokhmi Hundi: It is drawn by the consignor of goods on the consignee against the goods shipped.
5) Nam-Jog Hundi: It is payable to the person named on the hundi.
6) Dhani Jog Hundi: It is payable to the “dhani” i.e. owner who holds the instruments or to the bearer.
7) Nishan Jog Hundi: It is payable to the person who present it for payment.
8) Jawabi Hundi: It is used to transfer money from one place to another. It is similar to “Money Order”.
21. What is Lead Bank scheme? State the effects of this scheme.                                             2+6=8
Ans: Under the lead banking Scheme a particular bank was made responsible for a particular district to develop banking and credit in that district. This scheme was framed for surveying and developing the banking potential of all the districts in the country. This scheme was introduced by the RBI on 12 dec, 1969. The concept of a lead bank was formulated in order to involve commercial banks in rural development.
Effects of Lead bank
a)      Branch expansion: There was found more effectiveness in branch expansion, supervision and guidance after introducing the Lead Bank Scheme.
b)      Co-operation: There was found more co-operation among commercial bank, Co-operative bank, other financial institution and government authorities after introducing the Lead Bank Scheme.
c)       Identification: Identification of unbanked area within district was possible through Lead Bank Scheme.
d)      Credit facilities: Extending credit facilities in allotted district.
e)      Facilities to farmers: Provisions for training of small farmers so as to ensure proper utilization of funds and to make provisions for storage, repairing and services of agricultural equipments.
Or
Discuss the principles of sound lending to be followed by commercial bank.     8
Ans: The principles of sound lending by commercial banks are:
a)      Safety of principal: The first and foremost principle of lending is to ensure the safety of the funds lent. It means that the borrower is in a position to repay the loans, along with interest, according to the terms of the loan contract. The repayment of the loan depends upon the borrower’s (i) capacity to pay and (ii) willingness to pay. The banker should, therefore, take utmost care in ensuring that the enterprise or business to which a loan in to be granted is a sound one and the borrower is capable to repay it successfully.
b)      Profitability: Commercial banks are profit earning institutions. They must employ their funds profitably so as to earn sufficient income out of which to pay interest to the depositors, salaries to the staff and to meet various other establishment expenses and distribute dividends to the shareholder. The sound principle of lending does not sacrifice safety or liquidity for the sake of higher profitability.
c)       Marketability or Liquidity: Liquidity of loans is another principle of sound lending. The term liquidity of loan indicates quick realisation of loans from the borrowers. Banks are essentially dealers in short term funds and therefore, they lend money mainly for short term period. The banker should see that the borrower is able to repay the loan on demand or within a short notice.
d)      Purpose of the loan: Before granting loans, the banker should examine the purpose for which the loan is demanded. If the loan is granted for productive purpose, thereby the borrower will make much profit and he will be able to pay back the loan. In no case, loan is granted for unproductive purpose.
e)      Diversification: The element of risk in relation to loans cannot be totally eliminated, it can only be reduced. Risks of lending can be reduced by diversifying the loans. While granting loans, the banker should not grant a major part of the loan to one single particular person or particular firm or an industry. If the banker grants loans and advances to a number of firms, persons or industries, the banker will not suffer a heavy loss even if a particular firm or industry does not repay the loan.
f)       National policies: Banks have certain social responsibilities towards society also. The banks have to take into account the economic and social priorities of the country beside safety, liquidity and profitability. While formulating the lending policy, the banks are guided by the government policies in relation to disbursal of credit. Thus, national interest and policies are influence the lending decisions of banks.
In conclusion, it may be said that due consideration of all the principles are necessary, while evaluating a loan proposal.
22. What is Central Bank? Discuss the traditional functions of RBI.                                           2+6=8
Ans: Central Bank: The central bank is the supreme monetary institution of any country. It is established, owned, controlled and financed by the govt. of the country. The design and control of the country’s monetary policy is its main responsibility. India’s central bank is called the Reserve Bank of India.
In the words of R.S. Sayers, “It is a bank which controls the commercial banks in such a way as to promote the general monetary policy of the country.”
Traditional Functions of RBI
The functions of RBI are:
3)      Note Issue: The reserves bank of India is the sole authority for the issue of currency in India other than one rupee coins/notes and subsidiary coins. The RBI has adopted the minimum reserves system of note issue to issue currency notes in the country. Under this system the RBI maintains a minimum reserve of Rs. 200 crore of which Rs. 115 crore is in gold and the rest in securities. The issue department of RBI has the responsibility to issue paper money; the issue of currency into circulation and its withdrawal from circulation take place through the banking department of the Bank.
4)      Bankers to Government :- The RBI acts as banker to the Central and State Government as a bankers as a adviser as a agent into there capacities :-
d)      As a bankers.
e)      As an agent.
f)       As an advisor.
As a Government banker the RBI performs the following functions:-
i)        It maintains and operates deposit account of the central and state governments.
j)        It receives and collects payment on behalf of the Central and state governments.
k)      It makes payments on behalf of the central and state governments.
l)        It provides short term advances to government for which are called ways and means advances etc.
As a Government agent the RBI perform the followings functions:-
7)      Collect tax and other payments on behalf of the government.
8)      Raise loan from the public and thus manages public debts.
9)      Transfer funds and provide remittances facilities to the government etc.
As an adviser the RBI acts as an advising the Government on all financial matters such as loan separations investment, agricultural and industrial finance, banking planning etc. It also advices to promote the attainment of the national economic goals.
5)      Bankers Bank: The Central Bank is a banker to all the other banks. It is the supreme bank of all the banks. As the supreme bank it performs various functions. Some of the functions are:
f)       Custodian of cash reserve of the bank: The Central Bank acts as the custodian of cash reserve of the banks. Every Commercial bank has to keep a certain portion of their deposits and time and demand liabilities to the Central Bank in the form of cash reserves. The Central Bank maintains this cash reserve as the custodian and grants money to the commercial bank in times of emergency.
g)      Lender of the last resort: The Central Bank is the Lender of the last resort of the commercial banks. When the other banks shortage of funds, then they can approach to the Central Bank for financial assistance. The Central Bank lends money to them by discounting their bills. This enables the Central Bank to establish control over the banking system of the country. The RBI is ultimate source of money and credit provide fund to money market participate thus the RBI act as lender of last resort for the commercial banks.
h)      Clearing agent: In India the central clearing functions is managed by the RBI or the SBI is authorized to manage clearing house functions every day. Each commercial bank receives a number of cheques for collection from other banks on account of their customers. One bank may have to pay certain amount to another bank again the RBI will transfer fund from debtor to creditors account. Since all banks have their accounts with the RBI, the RBI can easily settle the claims of various banks each other with least use of cash.
6)      Control of credit :- As a central bank, the RBI take the responsibility to control of credit in order to economic development and price stability in the country under credit control policy different method are used to control the volume of credit in the economy. Important of them are General Credit Control and Selective Credit Control.

7)      Custodian of gold and foreign exchange reserves: - The RBI act as a custodian of gold and foreign exchange reserves for both on its own and on behalf of the Government. 

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