GRADE X- HANDOUT

Banking –Handout

Meaning of Bank-
(i) A bank is an institution which collects money from the public in the form of deposits and
lends the same to the borrowers (advances loans).
(ii) It is an institution that provides facilities for safekeeping, lending and transfer of money.

Meaning of Banking- Banking means the accepting, for the purpose of lending or investment,
of deposits of money from the public, repayable on demand or otherwise, and withdrawal by
cheque, draft, order or otherwise.

Types of banks:-The main types of banks are given below:

1. Central Bank: A central bank is the apex bank of the country which supervises and controls
its entire banking system.
Purpose-Its purpose is NOT to earn profits but to serve the country by regulating the monetary
and banking system in the country.
Main Functions-
(i) To issue currency notes.
(ii) To act as a banker to the government.
(iii) To act as a banker’s bank.
(iv) To control and supervise banks.
(v) To manage and control the foreign exchange.
(vi) To control the credit.
A central bank is so called because it occupies a central position in the banking sector of the
country. Every country has a central bank. The Reserve Bank of India is the central bank of
our country. It was established in 1935.

2.Commercial Bank: A commercial bank may be defined as a bank that (i) accepts deposits
payable on demand or withdrawal by cheque, draft or otherwise for the purpose of lending or
investment (ii) grants loans or advances (iii) renders a number of other services to its
customers.
Functions-
I Primary Functions

1. Accepting Deposits
(i) Commercial Banks receive deposits from the public for the purpose of making investments
and granting loans.
(ii) People deposit their savings for the sake of safety and for earning interest.

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 (iii) Depositors can withdraw their money in the form of cash or make payments to others from
their bank accounts through cheques.

Types of Bank Deposits:

A. Fixed Deposit Account/ Term Deposit/ Long term Deposit/ Time Deposit
(i) A one-time lump sum amount is deposited with the bank for a specified period of time, say
one year, 3 years, 5 years etc
(ii) This amount cannot be withdrawn before the expiry of the period.
(iii) The main object of this deposit account is to earn interest which is given periodically on the
deposit.
(iv) Interest on a fixed deposit account is generally higher than the rate of interest on other types
of deposit accounts.
(v) Early withdrawal of the deposit attracts penalty.

B. Savings Deposit Account/ Demand Deposit

(i) Any person desirous of saving his earnings can open a savings deposit account.
(ii) The main purpose of this account is to develop the habit of savings among people.
(iii) Deposits can be made any number of times in a week.
(iv) But there is a restriction on the number of withdrawals in a week.
(v) Interest is allowed on the minimum balance standing to the credit during a month.

C. Current Account/ Demand Deposit

(i) This account is generally opened by businessmen.
(ii) There is no limit to the number of deposits and withdrawals from this account.
(iii) Overdraft facility is allowed on a current account.
(iv) Bank pays no interest but makes a small charge on the current account.

2. Lending Money

A. Overdraft
(i) Overdraft means an arrangement under which a current account holder is allowed to
withdraw more than the balance to his credit upto a specified limit.
(ii) Interest is charged on the amount overdrawn and not on the limit sanctioned.
(iii) Commercial banks provide the overdraft facility on the security of some assets eg FDR or on
the personal security of the account holder.
(iv) Overdraft limit is usually sanctioned for a short period and the facility can be used both for
personal and business purposes.

B. Cash Credit
(i) It is a revolving/ running credit arrangement where the bank allows the customer to borrow
upto a certain limit.
(ii) The borrower need not be a current account holder.
(iii) He can deposit back any surplus.
(iv) Interest is charged on the amount actually withdrawn and not on the limit sanctioned.
(v) Cash credit is usually sanctioned for a longer period and the facility can be used only for
working capital purposes.
(vi) This facility is given on the security of some tangible assets like stock or personal guarantee.

C. Loans and Advances / Term Loans

(i) The bank advances a fixed amount in a lump sum to the borrower for short/ medium/
long term and credits it to his loan account.
(ii) The borrower may withdraw the whole amount at once or as per his needs.
(iii) Interest is charged on the whole amount sanctioned.

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 (iv) Loans are granted on the security of assets or on the personal security of the borrower.

In India commercial banks are organized as joint stock companies. They could be
(a) Public sector banks which are owned and controlled by the government . eg- Oriental
Bank of Commerce, Punjab National Bank. These banks have been formed under an Act
of Parliament.
(b) Private sector banks where the shareholders are members of public. Examples of such
banks are : ICICI Bank Ltd, HDFC Bank, IDBI Bank Ltd., Yes Bank etc
(c) Foreign Banks- Citi Bank, American Express Bank etc.

Types of Cheques:
Cheques are of the following types:

1. Open Cheque: An open cheque is a cheque which is payable across the counter of the bank and paid
by the bank there and then.

2. Crossed Cheque:
(i) A cheque is crossed by drawing two parallel transverse lines across its face with or without
words like & Co. or A/c Payee or Not Negotiable
(ii) A crossed cheque is one which is not payable across the counter of the bank. It can only be
credited to the payee’s bank account.
(iii) Crossing of a cheque protects the drawer against theft loss and forgery.
Crossing of cheques

What is crossing of a cheque: When two parallel transverse lines are drawn across
the face of a cheque, the cheque is said to be crossed. These two parallel transverse
lines are usually drawn on the left hand top corner of the cheque.

Effect of crossing a cheque: A crossed cheque cannot be encashed at the counter

of the Bank. Its payment can only be made into a bank account. It is quite possible
that the payee does not maintain his account at the bank on which the cheque is
drawn. In such a case, the payee’s bank will have the proceeds of the cheque
collected from the drawer’s bank (through clearing – an inter-bank settlement
process) and credit the payee’s account.

RESERVE BANK OF INDIA ( CENTRAL BANK OF THE COUNTRY)

The RBI is the central bank of the country. It was established on 1st April, 1935 under the RBI Act,
1934. The affairs of the RBI are managed by a Governor, 4 Deputy Governors, 14 Directors and one
official nominated by the Central Government.

Functions of RBI or Central Bank

1.Issue of currency notes :

(i) The RBI issues and regulates the issue of currency in India .

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(ii) In order to inspire public confidence in paper currency, the central bank keeps reserves of gold,
silver etc., for issuing currency notes.
(iii) The central bank is given monopoly of note issue in order to maintain
 uniformity in currency,
 to avoid over issue and
 to lend prestige to the currency system.

2. Banker to the Government:

(i) The RBI acts as a banker not only to the Government of India but also as a banker to the State
Governments. It gives loans and advances to the government.
(ii) As an agent it looks after the current financial transactions of the Government and manages its
public debt- receives and makes payment on behalf of the government.
(iii) As an advisor It advises the govt. in matters relating to banking and monetary policies.
(iv) As a representative it also represents the govt. in international conferences on monetary and
banking matters.

3.Banker’s Bank : The RBI acts as a banker to the commercial banks.

(i) Just as the private individuals keep and maintain their accounts with commercial banks, the
commercial banks keep and maintain their accounts with the RBI.
(ii) The commercial banks keep deposits with the RBI and they borrow from it when necessary. In
case of difficulties, the RBI acts as a lender of the last resort to commercial banks. A
commercial bank can rediscount its bills/ first class securities with the central bank.
(iii) The commercial banks are required to keep a cash reserve with the central bank so as to control
the credit in the country.
(iv) The RBI also advises the commercial banks on matters relating to their business.

4.Credit Control: The RBI is the guardian of the credit (borrowing by the public) system.
(i) By exercising quantitative control, the RBI regulates the amount of credit granted by commercial
banks. In the absence of such control, banks may lend too much or too little.
(ii) The objectives of credit control are
 to ensure stabilization of general prices and to check inflation.
 to encourage desirable economic activity by controlling the money supply in the country.

5.Custodian of Foreign Currency Reserves :

(i) The Central Bank is the sole custodian of gold and all other reserves of the country.

(ii) It collects the gold and foreign reserves of the country

 so as to overcome difficulties in balance of payments
 and to stabilize exchange rates
(iii) If the country’s balance of payment is favourable (exports exceed the imports) , then it will earn
foreign exchange but if the balance of payments is unfavourable (imports exceed exports) then
foreign exchange will go out of the country.
(iv) The Central Bank , therefore , advises the government to impose restrictions on imports and
encourage exports to keep a favourable balance of payments of the country.

6.Maintenance of Exchange Rate:

(i) The Central Bank monitors the exchange rate of the home currency in relation to foreign
currencies.
(ii) It tries to maintain stability in the exchange rate in order
 to promote the country’s foreign trade and
 to encourage the flow of foreign investment.
(iii) The central bank buys and sells foreign currencies in order to maintain a stable exchange rate.

7.Clearing House Facility:

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(i) The Central Bank maintains the cash balance of the commercial banks.
(ii) By acting as a clearing house, the central bank settles the claims the claims of commercial banks
against each other through book entries. The daily balances of the commercial banks can be
adjusted conveniently by means of means of debiting and crediting their accounts maintained by
the Central Bank.
(iii) Suppose Bank of India has to pay an amount of Rs.5 lacs to Dena Bank, then the only thing Bank
of India has to do is to issue a cheque of this amount to Dena Bank. By means of this cheque, the
Central Bank will debit the account of Bank of India with Rs 5 lacs and credit the account of Dena
Bank with the same amount.
(iv) In this way the claims of two banks against each other can be settled easily with the minimum use
of cash movement (simply book entries)

8.Promoter of economic development/ Developmental Functions:

The central bank performs a number of promotional and developmental functions to promote economic
development of the country.
(i) It supplies money to the agriculture, industry, trade and commerce. In our country, the RBI has a
special department of Agricultural Credit.
(ii) It provides loans to State Co-operative banks.
(iii) It gives advice to public and private financial institutions as regards financial matters.
(iv) It organizes the whole banking and money system of the country.
(v) It controls prices.
Thus the central bank has been playing a constructive role in the economic progress of the country.

9.Miscellaneous Functions:
(i) The Central Bank studies different economic problems of the country and compiles data and
information , and publishes reports and periodicals for the use of banks and the public.
(ii) It may provide staff training facilities to the personnel of commercial banks.
(iii) It acts as an agent to international institutions like the International Monetary Fund, the World
Bank etc., on behalf of the government.

Creation of credit
Creation of credit means expansion of credit facilities by the Central Bank of a country. For example,
the RBI increases the volume of credit in the economy by reducing the rate of interest. When the rate
of interest at which banks lend money is reduced, demand for credit increases.

Methods of credit control adopted by The Central Bank.

Methods of credit control

Quantitative credit control Qualitative credit control

(a) Bank Rate Policy (a) Credit Rationing
(b) Statutory Liquid Ratio (b) Moral Suasion
(c) Cash Reserve Ratio

Quantitative methods
(a) Bank Rate Policy
(i) The bank rate is the official rate at which the central bank rediscounts the first class securities of the
commercial banks.
(ii) It is different from ‘market rate of interest’. Market rate of interest means the rate at which
commercial banks charge interest from its borrowers while ‘bank rate’ is the rate at which the central
bank advances money to commercial banks.

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(iii) Whenever the RBI wants to reduce borrowing by the people, that is to reduce credit, it raises the
bank rate which in turn raises the market rate of interest. This results in less money in the economy.
(iv) On the other hand, when the RBI wants to expand credit, it reduces the bank rate.

(b)Cash Reserve Ratio (CRR):

(i) The Commercial Banks are required to keep a certain percentage of deposits as reserves with the
RBI.
(ii) If the percentage of reserves to be maintained is increased , the commercial banks will have to
deposit more money with the RBI and will therefore be left with less cash. This will o contract credit
(iii)If the limit is reduced, the commercial banks will have more cash with them, therefore more to lend
and would be able to expand credit,
(iii)Presently, the CRR has been fixed at %.

(c) Statutory Liquid Ratio (SLR)

The commercial banks are also required to keep a certain percentage of their total deposits in liquid
form consisting of cash and investment in govt. securities with itself. This is to meet their day to day
requirements of withdrawals by the customers.
(ii)When the RBI wants to reduce the volume of credit, it raises the SLR. Thus when the commercial
banks will have to maintain more liquid assets, their capacity to grant credit will be reduced.
(iii)Similarly the Central Bank can expand credit by reducing the SLR.

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