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Saturday, August 22, 2009

Functions of Money

Saturday, August 22, 2009 - 0 Comments

The functions of money can be conveniently divided in to three parts (A) Primary (B) Secondary and (C) Contingent functions. These functions are briefly discussed as under.
(A) Primary Functions:
(i) Money as Medium of exchange: In all market transactions money is used to pay for goods and services. The sale or purchase of goods is done through money. Money in other words acts as medium of exchange and helps in overcoming the difficulty of double coincidence of wants of barter economy.
(2) Money as a unit of account: Another important function of money is that it provides a unit of account. The monetary unit of account is used to measure the value of goods and services in the economy. Just as we measure weights in terms of kilograms or distance in kilometres similarly we measure and compare the value of goods and services in terms of money.
(3) Money as standard of deferred payments: Another function of money is that it is used as mean of setting debts maturing in the future. In modern economy most of the business is done on credit. Goods are bought and sold on the promise to pay money on a certain date in future. Debts are stated and paid in terms of units of account.
(4) Money as a store of value: Money also functions as a store of value. It is a reservoir of purchasing power overtime. The money which you have today can be set aside to purchase things later on. This function of money is useful because most of us do not to spend our income immediately upon receiving it. They prefer to wait until they have the time or desire to spend it.
B. SECONDARY FUNCTIONS OF MONEY
Money as potential to influence the economy. It influences the price level, interest rates, utilization of resources etc. The secondary functions of money in brief are
1. Aid to specialization, production and trade: The use of money has helped in removing the difficulties of barter. The market mechanism, production of commodities, specialization, expansion and diversion of trade etc have all been facilitated by the use of money.
2. Influence on Income and consumption: The use of money has direct bearing on levels of income and consumption in the country. All production takes place for the market and the factor payments are made in money.
3. Money as an instrument of making loans: People save money and deposit it in banks. The banks and advance these saving to businessmen and industrialists. Money is thus the instrument by which saving are transferred into investment.
4. Money as a tool of monetary management: Money is an important tool of monetary management. If the money is effectively used it helps in increasing output and employment.
5. Instrument of economic policy: Money is an important instrument of economic policy. In order to achieve growth, reduce unemployment and maintain regular expansion of economic activity money is the most powerful factor.
C. CONTINGENT FUNCTIONS
Contingent functions are derived from primary and secondary functions. Contingent functions of money are as follows.
(i) Distribution of national income: Money facilitates the distribution of national income among various factors of production.
(ii) Basis of Credit system: Banks create credit on the basis of their cash reserves. Any change in the volume of money is brought about mainly by an increase or decrease in money supply.
(iii) Measure of Marginal Productivity: The marginal productivity of each factor of production is measured with the help of money.
(iv) Liquidity of Property: Money gives liquid form to wealth. A property can be converted into liquid form with the use of money.

Price Stability

The general rise in the level of prices represents inflation, while the general fall in the level of prices is called deflation. Both these situations are undesirable. Therefore monetary policy is used to stablize the prices. Because of the price stability.
(1) The negative effects rising in an economy will come to an end.
(2) The price stability will not allow the depression or boom to occur.
(3) The future value of money can easily be assessed, and everybody will accept it for future payments without any hesitation.
(4) The price stability will not encourage unequal income distribution.
(5) Because of the price stability the rising prices during inflation and falling prices industry deflation could be controlled.
(6) The Stable prices lead to stagnation in the economy. As if producers and labour not possessing the incentives in the form of more profits and wages their efficiency will be affected.
(7) Because of the changes in price level the resources allocation, investment, direction and choice of technique like issues are easily resolved.
(8) Because of the constant price level the fixed income group would develop the realization that their wages, pensions, rents and interest etc will remain the same. When their incomes do not increase they will fail to avail the luxuries of life.
(9) The price stability is not possible because monetary policy can not encompass the whole economy. The monetary policy can maximally influence the activities of commercial banks. The non-bank financial institutions and foreign bans have their own policies which are hardly influenced by the changes in monetary policy.
Keeping above given points in for and against the price stability in view it can be concluded that it is not possible practically that the prices could remain stable or constant at a particular level. Therefore economists think that the monetary policy be devised in such a way that the rising prices and falling prices both should remain under control. It means that neither the pries should rise very sharply nor should fall very rapidly.

Money Market

Money market is a financial market for short terms loans. It is a market for short term borrowing and lending of funds. It is defined as “a financial market in which only short term debt instruments having maturity of less than one year are traded”.
The main features of money market are given as under.
(i) Money market has buyers and sellers in the form of borrowers and lenders. The borrowers are the traders, manufactures, speculators. The lenders in the money market are the Central Bank, Commercial Banks etc.
(ii) It deals with short term credit instruments such as Treasury bills of exchange etc.
(iii) Money market securities are more widely traded and are liquid.
(iv) Short term securities have smaller fluctuation in prices. Therefore they are considered sage investment.
(v) Money market operates through various financial institutions such as Central bank, Commercial banks, non bank financial intermediaries, bill brokers.
(vi) Money market is not a single homogenous market. It is composed of several sub markets. Each market deals with specific short term credit instruments e.g. call money market, trade bill market etc.

Liquidity Preference

In the words of Meyer “Liquidity Preference is the preference to have an equal amount of cash rather then to claims against others”.
According to Keynes interest is purely a monetary phenomenon people prefer to hold a part of their incomes and wealth in liquid form. People become willing to part with liquidity only when they are offered same reward in the form of interest liquidity preference means the demand for money to hold cash.
Keynes is of the view that rate of interest is determined by the demand for (liquidity preference) and supply of money.
Keynes has given three motives for holding money in liquid form.
1. Transaction Motive: The transaction motive relates to the demand for money or the need for cash for the current transactions of individual and business exchanges. Individuals hold cash in order to “bridge the internal between the receipt of income and its expenditure” the businessmen and the entrepreneurs also have to keep a proportion of their resources in ready cash in order to meet their current needs of various kinds. In the case of individuals Keynes calls it Income motive and in case of businessmen it is called by him Business motive.
2. Precautionary Motive: Precautionary motive for holding money refers to the desire of the people to hold cash balance for unforeseen contingencies. People hold a certain amount of money to provide for the danger of unemployment, sickness, accidents and other more uncertain perils. This amount of money held under this motive will depend on the nature of the individual and the conditions in which he lives.
3. Speculative Motive: The Speculative motive relates to the desire to hold one’s resources in liquid form in order to take advantage of market movements regarding the future changes in the rate of interest.

Full Employment

The classical economists believed that there was always full employment. According to them full employment is a situation when there is no involuntarily unemployment, through there may be voluntarily, casual, seasonal, structural, technological and frictional unemployment. In their opinion in a free competitive economy serious unemployment was passing phase. All job seekers are able to find jobs sooner or later at the prevailing wage rate. This view however is not accepted by economists these days. Actually there is always some unemployment. Employment will be full literally when every able bodied adult worked the number of hours considered normal for a fully employed person at the current wage level. This level of employment, however normally appears to be unattainable in private enterprise economists. For, under such economics, quite a few have enough unearned incomes to be able to afford a life of well-paid idleness. Pigou accordingly defied full employment as one when “every body who at the ruling rate of wages wishes to be employed is infact employed”.
But even Pigovian full employment appears to be unattainable for, at any given time, there is bound to be some seasonal and frictional unemployment. This led Keynes and after him to define full employment as a level of employment which falls short of Pigovian full employment. The Economic and Social Council of the UN has accepted the same definition for it required countries to fix full employment standard in this sense.
Keynesian full employment is by definition the maximum level of employment that private enterprise countries can attain without experiencing strong inflationary pressure. According to Keynes “full employment is a situation in which aggregate employment is inelastic in response to an increase in effective demand for its output”. But for purpose of practical policy it is necessary to reduce the concept to quantitative terms. It should be possible to say precisely when employment is less than full so that remedial measures can be adopted to achieve the full employment level.

Index Numbers

Index numbers are devices for measuring the difference in the magnitude of a group of related variables. An index number of prices is that a number which indicates the price level of any given dete as compared with the level of prices at some standard dete called the base.
PREPARATION OF INDEX NUMBERS
The following are the various steps in the construction of an index number.
(i) Choice of the base year: The first step is to choose a year to serve as the base year i-e the year with reference to which the price changes n other years are expressed as percentages. Care must be excised in its selection. It should be an average year, neither a year of boom nor of depression.
(ii) Selection of Commodities: The second step is to select commodities the prices of which have to be taken to represent the general price level. The commodities should be really representative and should be sufficiently large in number. The selection of commodities also depends on the object with which the index is prepared.
(iii) Price Lists taken for each commodity: It is better to have an average of wholesale prices of the same commodity from a number of representatives markets. These prices are taken for the base year and also for the subsequent years the index number for which we want to construct. Retail prices are better because it is the retail prices which consumers actually pay. But retail prices are not taken because they differ widely from locality to locality.
(iv) Price of each commodity: The next step is to represent the price of each commodity for the base year as 100 and the price of the same commodity for the subsequent year as a percentage of the price for the base year. For instance of the price of wheat in the base year is Rs. 70 per quintal and is called 100 of Rs. 154 in the subsequent year should be called 220 and so on in the case of all the commodities taken and all the years.
(v) The Final step: The final step is t strike the average of the numbers thus obtained with reference to each year. The average for the base year will to course come to 100. The other average will be higher or lower than 100 according as the general price level has risen or fallen.

International Development Association

The establishment of the International Development Association (I.D.A) was another step in the direction of increasing international liquidity in the World. The I.D.A was setup in September 1960, as a subsidiary of the World Bank to provide “soft loans” to the member countries. In other words the object of the I.D.A was to provide loans to the member countries on liberal terms with regard to the rate of interest and the period of repayment. The interest charged on the I.D.A loans was lower than that of the World Bank. Jurther the borrowing countries were allowed longer periods, say 50 years or so, for repayment of loans. Besides the loans taken by the member countries could be repaid in their own national currencies. They were under no obligation to repay the loans in hard currencies as was the case with the World Bank. It is on this ground that the I.D.A is often referred to as the “Soft Loans Window” of the World Bank.
The I.D.A has its own criterion for investment in developing countries. The project to be selected for financial aid should be of a high development priority. The project should be such as to help the country in saving its foreign exchange resources during the course of its fulfilment. The I.D.A gives loans to private industrial undertakings without any guarantee from the government of that country.
MEMBERSHIP, CAPITAL AND ORGANIZATION OF I.D.A
The membership of the I.D.A is open to all those countries which are members of the World Bank. The I.D.A was started with an initial capital of 1,000 million dollars collected from member countries. The capital resources of the I.D.A have been increased from time to time to meet the increasing requirements of the member countries. The subscriptions from the member countries are payable to the I.D.A in five annual instalments. The I.D.A has divided its member countries into two parts. Part I comprises 21 countries and Part II includes 99 countries. The countries included in Part I happen to be rich and affluent with higher income per capita.
NATURE OF I.D.A ASSISTANCE
I.D.A provides ‘soft loans’ to the member countries which are generally interest free. But there is a nominal service charge of 3/4 percent on the amount of outstanding loans. This charge is intended to cover the administrative expenses of the I.D.A. The I.D.A provides long term loans repayable over a period of 50 years with an initial grace period of 10 years. No repayment is to be made during the initial period of 10 years. Afterwards 1 percent of the principal amount of the loan is repayable annually for a period of 10 years and during the next 30 years the balance of the outstanding loan is to be amortized at an average rate of 3 percent per annum. The I.D.A provides loans for such projects as water supply, sanitation, health, education urban development etc, which do not make immediate contribution to the economic development of the country.

International Finance Corporation and its Objectives

The International Finance Corporation (I.F.C) is an affiliated institution of World Bank. It was established on July 20, 1956 with the object of assisting private enterprises in developing countries by providing them with risk capital. The World Bank grant loans only to member governments or private enterprises with the guarantee of member government concerned. Again the World Bank provides only loan to private enterprises. Infact the development of private enterprises is held up for lack of adequate risk capital. Hence there was an urgent need for some international finance institution which would be willing to provide risk capital to the private industrial undertaking in developing countries. The I.F.C was set up to meet the participation requirement of private industrial undertakings.
OBJECTIVES OF THE I.F.C
The main objectives of the I.F.C is to accelerate the pace of economic development of the member countries in the under developed areas of the world in these ways.
(i) By investing in private productive enterprises in association with private investors and without any government guarantee of repayment.
(ii) By bringing together investment opportunities, private capital, both foreign and domestic and experienced management.
(iii) By stimulating productive investment of private capital, both foreign and domestic, in the developing countries for productive purposes.
MEMBERSHIP OF THE I.F.C
As already pointed out that the I.F.C is an affiliate of the World Bank. Its membership is separate from that of the World Bank. But it is only the members of the World Bank who can become members of the I.F.C. It is not essential that all the members of the World Bank should also be the members of the I.F.C, is optional for the members of the World Bank. Total membership of the I.F.C at present is 161.
ORGANIZATION OF THE I.F.C
All the powers of the I.F.C have been vested in the Board of Governors. There is one Governor from ach member country nominated by government of that country. The Board of Governors normally meets once a year to chalkout the general policy of the corporation. The general business of the I.F.C is carried on by the Board of Directors which meets at least once a month. There are 21 Executive Directors who constitute the Board of Directors of the corporation. The President of the World Bank is ex-officio Chairman of the Board of the Directors of I.F.C. Subject to this over all supervision, the day-to-day routine working of the corporation is conducted by the Executive Vice-President.
CAPITAL OF THE I.F.C
The Corporation was started in July 1956 with an authorized capital of 100 million dollars. The capital has been increased from time to time to meet the increasing requirements of the corporation. The Board of Directors has decided to double the authorized capital of I.F.C to 1,300 million dollars. The corporation has also been borrowing funds from the World Bank to supplement its financial resources.
INVESTMENT CRITERIA OF THE I.F.C
While extending financial assistance to enterprises the Corporation keeps following points in view.
1. The borrowing enterprises should be expected to make profits in course of time. Infact profitability is an essential criterion for loans to be made by the I.F.C.
2. The borrowing enterprises should be such as to make a definite contribution to the economic development of the country in which it is located.
3. The corporation is prevented by its Charter to invest more than 22 million dollars in any single venture.
4. The corporation can make investment in a private enterprises only if more than 50 percent of the capital is forth from that enterprise itself.
5. So far as the equity is concerned the Corporation cannot provide more than 25 percent of the aggregate capital of the borrowing enterprise.

International Bank for Reconstruction; its Functions and Objectives

The International Bank for Reconstruction and Development (I.B.R.D) better known as the World Bank was established at the same time as the International Monetary Fund to tackle the problem of International investment in 1944. Since the I.M.F was designed to provide temporary assistance in correcting balance of payments difficulties, there was need of an institution to assist long term investment purposes. Thus I.B.R.D was established for promoting long term investment loans on reasonable terms.
The World Bank is an inter-government institution corporate informs the capital stock of which is entirely owned by its member governments. Initially only nation there were members of the I.M.F could be members of the World Bank but the restriction on membership was subsequently released.
FUNCTIONS OF I.B.R.D
The principal functions of the I.B.R.D are set forth in Article (1) of the Agreement as follows.
1. To assist in the reconstruction and development of the territories of its members by facilitating the investment of capital fro productive purposes.
2. To promote private foreign investment by means of guarantee of participation in loans and other investments made by private investors and when private capital is not available on reasonable terms to make loans for productive purposes out of its own resources from funds borrowed by it.
3. To promote the long term balance growth of international trade and the maintenance of equilibrium in balances of payments by encouraging international investments for development of productive resources of members.
4. To arrange loans made guaranteed by it in relation to international loans through other channels so that more useful projects, large and small alike, will be dealt with first.
OBJECTIVES OF I.B.R.D
The objectives of I.B.R.D as incorporated in the Articles of Agreement are as follows.
1. To help in the reconstruction and development of member countries by facilitating the investment of capital for the productive purposes, including the restoration and reconstruction of economies devastated by war.
2. To encourage the development of productive resources in developing countries by supplying them investment capital.
3. To promote private foreign investment through guarantees and participation in loans and other investment made by private investors.
4. To supplement private foreign investments by direct loans out of its own capital for productive purposes.
5. To promote long term balances growth of international trade and the maintenance of equilibrium in the balance payments of member countries by encouraging long term international investments.
6. To bring about an easy transition from a war economy to a peace time economy.
7. To help in raising productivity, the standard of living and the conditions of labour in member countries.
The World Bank advances loans to member countries primarily to help them lay down the foundation of sound economic growth. The loans made by the Bank either directly or through guarantees are intended for certain specific projects of reconstruction and development in the member countries.
LENDING PROCEDURE OF I.B.R.D
The I.B.R.D advances loans to member countries in the following three ways.
1. Loans out of its own Fund: As we know that the Bank collects capital contributions from its members this results in the creation of a sizeable fund out of which the Bank advances loans to the needy member countries.
2. Loans out of borrowed Capital: Sometimes the Bank does not grant loans out of its own funds. It borrows funds from another member country for the purpose of giving loans to the needy members. The Bank pays interest to the member country from which it has borrowed funds for a specific period of time.
3. Loans through Bank’s guarantee: Sometimes the Bank encourages the private investors of a country to lend their funds to an other country by guaranteeing the repayment of loans and interest there on. Ordinarily the Bank does not lend to the member countries out of its own funds. The Bank lends out of its funds only when private investors in member countries are not forthcoming to make loans to the concerned country.

I.M.F; Objectives and its Advantages

There was complete lack of monetary cooperation amongst the countries of the world after the First World War. A sort of economic war was going amongst the majority of the countries of the world. Infact the Second World War broke out primarily on account of these economic causes. During the closing years of war an international monetary conference was held at Bretton Woods in the U.S.A. in July 1944 to prepare a plan to root out the economic causes leading to the out break of war. The Bretton Woods Plan was divided into two parts (1) the establishment of I. M. F. and (2) the setting up of World Bank. I. M. F. started functioning on the 1st march 1947.
OBJECTIVES OF I. M. F.
Following are the objectives of I. M. F.
1. To bring about international monetary cooperation.
2. To ensure stability in foreign exchange rates.
3. To eliminate exchange control.
4. To establish system of multinational trade and payments system.
5. To promote international trade.
6. To help member nations to achieve balanced economic growth.
7. To eliminate of to reduce the disequilibrium in the balance of payments.
8. To promote investment of capital in backward and under developed countries.
CAPITAL AND ORGANIZATION
The capital of the I. M. F. consists of the aggregate of the quotas allotted to member countries. Each member pays either 20 percent of quota or 10 percent of its entire gold and dollar holdings, whichever is less, in gold. The balance of quota is paid to the I. M. F. in the national currency of the member country. The quota as of member countries of the I. M. F. are normally revised once every five years.
There are two bodies to run the management of the I. M. F. (a) The Board of Governors and (b) The Board of Directors. Every member country appoints one Governor to participate in the meetings of the Board of Governors. The Board of Governors formulates the general policy of the Fund. There are 21 members in the Board of Directors. Seven of then are permanent members, while fourteen are elected from amongst the remaining members.
According to the Fund Agreement, the headquarters of the Fund are located in a country which happens to have the highest quota of capital of I. M. F. The head office of the Fund is at present located in Washington.
FUNCTIONS OF THE I. M. F.
There are three important functions of the Fund. They are (1) The Fund helps the member countries to eliminate or at least to minimize the short period disequilibrium in their balance of payments.
(2) The Fund also helps the member countries to remove the long period disequilibrium in their balance of payments.
(3) The Fund tenders advice to the member countries on economic and monetary matters, because it is in a position to do so in view of its special quota.
ADVANTAGES OF THE FUND
Following are the main advantages which have occurred to the world from the functions of the Fund.
1. Establishment of a Monetary Reserve Fund from which foreign exchange requirements of various are met.
2. Setting up of multilateral trade and payments system.
3. Improvements in short term disequilibrium in balance of payments.
4. Stability in foreign exchange rates.
5. Check in competitive currency devaluation.
6. No interference in domestic economic affairs.
7. Gains of Gold Standard.
CRITICISM OF THE FUND
The functions of the Fund is often subjected to the criticism on the following grounds.
1. Limited scope of the functioning of the Fund.
2. Quota fixation is on unscientific basis.
3. Discriminating treatment.
4. Inability to remove exchange controls.
5. No success in securing exchange stability.
6. No provision for automatic revaluation of currency.
7. No solution of the liquidity of problem.
8. Failure to tackle the problem of pertro-dollars.
9. No elimination of multiple exchange rates.
10. Free convertibility of currencies not attained.
11. Inadequate representation to developing countries.
12. Provision of inadequate resources to developing countries. Erosion of sovereignty of poor nations.

Limitations of Monitary Policy

Now we see the limitations in the ways of effective role of monetary policy in case of developing countries like. Main points about limitations are discussed as under.
1. In case of under-developed countries the money and capital markets are very immature. The banking system is backward and there operates non-monetization in the economy. Above all the major parts of transactions are made with the help of cash, where as the use of cheques and drafts are very limited. The saving schemes are not very attractive. As a result, people are bound to keep their savings in the form of gold and hoardings.
2. There exists a traditional type of banking in the poor countries where banks provide more loans to commerce while reduced loans are given over industrial and agricultural sectors. Perhaps it is due to long period of time and element of uncertainty. If Central Bank inducts cheap money policy for economic development its benefits are mostly availed by speculators a hoarders while the neglected sectors remain deprived of. It shows that easy monetary policy leads to create artificial shortages, regional imbalances and unequal income distribution, rather being helpful in economic development. Thus monetary policy aggravates the problems of developing countries.
3. In case of developing countries the money market is extremely backward. It is fragmented into organized and unorganized money markets. The organized money market is located in cities where bank and specialized institutions provide loans at concessionary rates. While the unorganised money market is located in villages where there is dearth of banks and financial institutions. The Zamindars, money lenders and merchants provide these loans at a higher rate of interest. Above all, the monetary policy will have a least influence over unorganized money market and central bank is pursuing easy monetary policy.
4. In case of poor countries there is limited business regarding stocks, shares and securities. The stock exchanges are confined to few big cities. Central Bank follows a very conservative and orthodox way regarding sale of securities. There is a limited publicity in respect of public loan. The Government security market is neither deep nor elastic. More over, so many financial institutions like co-operative banks etc are least affected by monetary policy. They have them own structure of rate of interest, rigid and inflexible even in the presence of easy monetary policy.
5. In case of under-developed countries the unemployment is not of cyclical nature, which could be removed with easy monetary policy. Rather it is concerned with disguised and under-employment. Accordingly the role of monetary policy is different in under-developed countries. Accordingly there is a need to adjust monetary policy to the circumstances prevailing in the backwards countries. In case of developing countries monetary policy can play its effective role when.
(A) Such a rate of interest structure could come into being which is flexible upward as well as downward. Moreover the benefits of cheap money policy should not be taken away by speculators and hoarders.
(B) If the loans provided under cheap credit money policy are transmitted over to goods sector i.e they are used for speculation a shortage goods will develop. Hence the economy may experience inflation. The inflation will sabotage the process of development. Therefore central bank will have to keep an eye over the speculative demand for money. The loans for unproductive uses will have to be encouraged.
(C) The major part of bank loans is taken away by businessmen while the small traders and agriculturists fail to get the loans. Thus to remove such disparity and proper distribution of loans the central bank should encourage the opening of new banks which could provide loans neglected persons and sectors. Co-operative banking be promoted. As a result not only the savings will increase, but the loan availability will also become possible.
(D) In countries like Pakistan there always exists a danger of inflation. It is because of the reason that outputs cannot be increased to the desirable extent. There is a big population pressure. The government expenditures are far more than government revenues. The trading is carried under speculation and hoarding. In such like circumstances, the selective credit controls are more useful i.e central bank restricts the speculative and consumer credits.
In the light of above mentioned cases if monetary policy is reformulated it can play an effective role in the economic development of developing countries.

Role of Monitary Policy

Now-a-days the monetary policy is very important both for the developed as well as for the developing countries. We can have the idea about the role of monetary policy for the developing countries like Pakistan from the points explained below.
1. The under-developed countries are aimed at a balanced economic growth, particularly they want to develop their backward regions and utilize the labour, capital and other natural resources at their disposal in a best way. For this purpose monetary policy can be helpful to us. As the loaning facilities to backward regions can be extended, the cheaper credit may be made available to the preferred regions and sectors, and more loans at cheaper rates for neglected areas can also be provided to start the process of economic development.
2. The economic development of a country depends upon technical changes, inventions and innovations and discovery of new models etc whether they have been imported of formulated at domestic level. Accordingly, monetary policy has to play its role for the sake of technical progress and inventions etc. As the producers who want to produce new goods can be provided the credit at soft conditions. In this way the process of development can be started.
3. The economy which is engaged in the process of economic development is in need of more capital so that the transaction of goods and services could easily be facilitated. The availability of more money will put to an end the non-monelized sector in the poor countries. The backward and self sufficient life of villages will come to an end.
4. Economic growth and industrial growth are compulsory to each other. The industrial growth can be possible if loans are provided in a greater amount. The entrepreneurs with greater funds would utilize the resources and produce more goods. The availability of loans can be made possible through money and capital market. The monetary policy can be helpful in establishing the monetary institutions.

Price Stability and Balance of Payments

There appears to be no conflict between the objectives of price stability and balance of payments in country. Monetary policy aims at controlling inflation to discourage imports and encourage exports and thus it helps in attaining balances of payments equilibrium. However if the government tries to remove unemployment and allows some inflation with in the economy, there appears a conflict between these two objectives. For a rise in the price level will discourage exports and encourage imports, thereby leading to disequilibrium in the balance of payments. But this may not happen if prices also rise by the same rate in other countries of the world.

Full Employment and Balance of Payments

There is a major policy conflict between full employment and balance of payments. Full employment is always related to balance of payments deficit. Infact the problem is one of maintaining either internal balance or external balance. If there is balance of payments deficit, then a policy of reducing expenditure will reduce imports but it will lead to increase in unemployment in the country. If the government raises aggregate expenditure in order to increase employment, it will increase the demand for imports there by creating disequilibrium in the balance of payments. It is only when the government adopts expenditure-switching policies such as devaluation that this conflict can be avoided but that too temporarily.

Full Employment and Price Stability

One of the objectives of monetary policy in 1950’s was to have full employment with price stability. But the studies of Phillips, Samuelson Solow and others in the 1960’s established a conflict between two objectives. They suggest that full employment can be attained by having more inflation and that price stability can be achieved by having unemployment to the extent of 5 to 6 percent. Economists do not find any conflict between unemployment and price stability. They hold that so long as there are unemployed resources, there will be price stability. Prices start rising only when there is full employment of resources.

Economic Growth and Price Stability

There is a conflict between the goals of economic growth and price stability. The rise in prices is inherent in the growth prices. The demand for goods and services rises as a result of stepping up of investments on a large scale and consequent rise in prices especially when the level of full employment is reached. In the long run when new resources are developed and growth leads tot eh production of more commodities, the inflationary rise in prices will be checked. But the rise in prices will be there with the growth of the economy and it will be moderate and gradual.

Full Employment and Economic Growth

The majority of the economists hold the view that there is no inherent conflict between full employment and economic growth. Full employment is consistent with 4 percent unemployment in the economy. So the relationship between full employment and economic growth boils down to trade-off between unemployment and growth. Periods of high growth are associated with low level of unemployment and periods of low growth with rising unemployment.
In 1961 Aurther Okun established relationship between real GNP and changes in the unemployment rate. This relation has come to be known as Okun’s law. This law states that “for every three percentage points growth in real GNP, unemployment rate declines by one percentage point every year.
However certain economists argue that unemployment rate increases as the growth rate rises. Economic growth leads to reallocation of resources in the economy where by there is change in the type and quantity of labour demanded. There is a shift in the demand for labour from one sector of the economy to the other. As workers are trained for specific jobs, they are displaced when the demand for the products of particular industries falls. This creates unemployment. This is particularly so when growth is the result of technological innovations which are labour saving and require more qualified and skilled workers. Thus unskilled workers are worst sufferers because they are thrown out of jobs with automation. Employment can however increase with growth if demand is increasing at 3 percent per annum and the productivity is increasing at 4 percent per year, thou put will expand by employment will decline. Under the circumstances the government should adopt such monetary policy which should increase the overall demand in the economy.

Instruments and Techniques of Monetary Policy

Monetary policy mainly aims at controlling the volume of credit in the country and sometimes also the direction of its use. It is not possible to describe in detail the methods by which this is done, for which reference may be made to any good book on the theory of money and banking. A brief mention of them, however must be made for completeness of our discussion.
Monetary policy may achieve credit control in various ways depending upon whether the control desired is “quantitative control” or “qualitative control”. The former refers to the volume of purchasing power and latter to the use to which it may be put.
(a) QUANTITATIVE CONTROL
The methods of quantitative control include the following.
(i) Bank Rate Policy: The Central Bank of the country raises or lowers as needed, its Bank Rate (discount rate) for first calls paper thus influencing other interest rate sin the money market. A higher rate discouraged and lower rate encourages bank loans ad hence credit expansion. Thus is regulates and controls the volume of purchasing power in the economy for carrying on economic activities.
(ii) Open Market Operations: The Central Bank buys or sells, as the need may be, Government securities in the open market. By purchasing the securities it adds to the balances of commercial banks with itself and by selling them it reduces such balances. Balances with the Central Bank being as good as cash, such operations expand and restrict respectively the power of commercial banks to create credit when they sell of buy such securities.
(iii) Variable Reserve Ratios: The Central Bank requires a certain percentage of the liabilities of commercial banks (or member banks) to be kept in form of reserves with it under the law. This ratio can be increased when credit contraction is desired and decreased when the object is to expand credit.
(iv) Credit Rationing: The Central Bank may put limits on the issue of credit (overall or for particular purposes) on the part of the member banks. These limits may be increased or decreased as needed by the monetary situation in the country.
(b) QUALITATIVE CONTROL
It includes following.
(i) Moral Suasion: Central Bank through direct advice or persuasion may influence the banks to follow particular lines of policy considered necessary to meet a particular situation.
(ii) Consumer Credit Regulation: In times of inflationary pressure the Central Bank may put restrictions on loans to consumers. If consumption needs encouragement the Central Bank may allow commercial banks to advance loans for consumption.
(iii) Publicity: This method is used usually accelerating the pace of economic development. This implies issuing of weekly statistics, periodical reviews about money market conditions, public finance, trade, industry, weekly balance sheet etc for the information of commercial banks, this convincing them of the desirability of following particular lines of policy.
(iv) Variable Margin Requirements: Margin requirements may be increased if the object is to discourage, and decreased if the aim is to encourage credit only for speculative activities in the stock exchange.
(v) Direct Action: This method is used by Central Bank usually to rediscount bills of banks following policies which are inconsistent with the Central Banking policy. This method is rarely used and only as last resort.
To be fully effective in achieving their aims these methods pre-suppose a well-developed money market which is sensitive to the actions taken by the Central Bank. If there is a large non-monelised sector and net of banking institutions is not wide enough to cover the country, or there is absence of organised banks prepared to cooperate in the national interest monetary policy will face difficulties in achieving its objectives.

Monetary Policy and its Objectives

The monetary policy of a country consists of various measures usually taken by its Central Bank but ultimately reflecting Government policy to seek to influence the supply of and demand for money and the various uses to which loanable funds may be put. The objectives of monetary policy are achieved through influencing the lending policies of banks which affect the flow of purchasing power and its direction in the country.
The main objectives of monetary policy may be divided into two broad categories.
(i) Those of minor scope: This category includes such objectives as stabilisation of money market, protection of the monetary standard, elimination of undesirable fluctuations in foreign exchange rates, maintaining stability of inter prices, avoidance of undue fluctuations in interest rates etc. These objectives, however remain in the background of the monetary policies of the present day economies and are subordinated to the major objectives, and hence are given comparatively small importance.
(ii) Those of major scope: The major objectives of monetary policy have varied under difference monetary systems, under the gold standard, safeguarding the gold reserve from internal and external drains was given the chief importance. During the thirties of the present century the major objective of monetary policy was considered to be achievement and maintainance of full employment. This was natural in view of the universal phenomenon of unemployment prevailing during the Great Depression. During World War II and the post war period control of inflation become a major task. One may say that some thing out of business fluctuation has remained one of the major objectives of monetary policy, particularly in the industrially developed countries. Closely connected with this has been the objective of Cheoxing the tendency towards that is called “secular stagnation” and to impart a healthy buoyancy to the economy. At present the problem of inflation dominates the scene almost everywhere outside the socialist world. For less developed world the major objectives of monetary policy has been to promote activities resulting in economic development or optimum utilisation of their material and human resources. In Pakistan monetary policy must be geared to the needs of her planned economic development in addition to tackling the current problem of high inflationary pressure.

Selective Credit Control

Qualitative or Selective credit control is a recent development in monetary management by the Central Bank. The objective of qualitative control is to divert the flow of credit into particular uses or channels in the economy. Infact the objective of selective credit control is to encourage the flow of credit into those uses or channels which help the growth of economy.
The following are the main types of selective credit controls exercised by the Central Bank.
1. Fixation of Margin Requirements on secured loans.
2. Regulation of Consumer Credit.
3. Control through Directives by Central Bank.
4. Rationing of Credit.
5. Moral Suasion.
6. Publicity.
7. Direct Action.
All the above mentioned types of selective credit control are discussed as under.
1. Fixation of Margin Requirements: The margin is the difference between the ‘loan value’ and the ‘market value’ of securities offered by borrowers against secured loans. By prescribing the margin requirements on secured loans, the Central Bank does not permit the commercial banks to lend their customers the full value of the securities offered by them, but only a part of their market value. To start with, this method was applied to stocks and shares only. But now its scope has been extended to cover goods stored in authorized godowns. At present, this method is being extensively used by developing as well as developed countries to check the flow of credit into undesirable speculative activities.
2. Regulation of Consumer Credit: As we are aware that, durable consumer goods such as T.Vs, refrigerators, washing machines, motor vehicles etc are purchased in Western countries by the consumer on instalment credit. According to this system, a certain percentage of the price is paid by the consumers in downright cash. The remaining part of the price is financed by bank credit which is repayable by the consumer in instalments spread over a specified period of time. The objective of this method is to curb the consumption of durable consumer goods which happen to be in short supply in the economy.
This method controls excessive consumer demand for durable goods. This method was first introduced by the Federal Reserve System in the U.S.A. in August 1941 to regulate the terms and conditions under which credit repayable in instalments could be extended to the consumers for purchasing durable goods. Later on the method of consumer credit regulation was adopted by Central Banks in other countries, such as those of Britain, Canada, Australia and New Zealand.
3. Control through Directions: Sometimes, selective credit controls may be enforced on the commercial banks through directives issued by the Central Bank from time to time. These directives may be in the form of written orders, appeals or warnings by the Central bank addressed to the commercial banks. These directives are issued to the commercial banks in order to realize the following objectives.
i) To divert credit less urgent uses to more urgent uses.
Or from less productive uses to more productive use.
ii) To prohibit lending for certain purposes altogether.
iii) To fix maximum limits of credit for certain purposes.
The commercial banks generally decide by the directives issued to them by the Central Bank from time to time. These directives generally supplement the traditional weapons of control, such as, the bank rate and open market policy.
4. Rationing of Credit: This is another weapon in the armoury of the Central Bank. Rationing of credit as an instrument of credit control was first used by the Bank of England in the closing years of the eighteenth century. The term ‘rationing of credit’ implies two things, first it means that the Central Bank fixes a limit upon its rediscounting facilities for any particular banks. Second it means that the Central Bank fixes the quota of every affiliated bank for financial accommodation from Central Bank. This method of rationing of credit has a historical background. Due to the operation of the usuary law, the Bank of England could not raise its rate of discount beyond maximum limit of 5 percent. It was not possible for the bank to discourage excessive borrowing from it by the banks during periods of monetary stringency. The Bank of England was thus compelled to ration credit among the member banks. But after the repeal of usuary law, the method of rationing of credit lost its importance in Britain. Central Banks in other countries such as Germany, France, and Mexico also make use of this method to check excessive borrowing by the commercial banks from Central Bank. The rationing of credit as a method of credit control occupied a prominent place in Soviet Economic planning.
5. Moral Suasion: The moral suasion method is frequently employed by the Central Bank to exercise control on the commercial banks. This method involves advice, request and persuasion with commercial banks to cooperate with the Central Bank in implementing its credit policies. If the commercial banks do not abide by the advice or request of the Central Bank, no punitive action is taken against them. The Central Bank merely uses its moral influence with the commercial banks to prevail upon them to accept its policies. For example, the Central Bank may request the commercial banks not to extend credit for speculative purposes or it may request the member banks not to press with the demand for additional financial accommodation from it. The Central Bank under this method can only appeal to the patriotic and nationalistic sentiments of the commercial banks. The Central Bank may even hold occasional conferences with the commercial banks to make its policies known to them. Anyway, the method of moral suasion is a purely informal method with no legal sanction.
The method of moral suasion has also its limitations. The main drawback of this method is that it lacks legal sanction. As such, it fails to be effective at a line when the forces of credit expansion in the economy happen to be very strong and powerful. Nevertheless, this method has its uses and can serve as useful supplement to other methods of credit control.
6. Publicity: Central Banks have adopted publicity as an instrument of credit control. They use this instrument not only for influencing the credit policies of commercial banks but also to educate and influence public opinion in the country. Infact publicity is an essential instrument to ensure the effectiveness of the monetary policy of The Central Bank. Under this method the Central Bank gives wide publicity to what is good and what is bad in credit system of the country. The Central Bank gives wide publicity to its thinking in the field of bank credit. The commercial banks, in their turn are guided by the ideas of the Central Bank in matters relating credit creation.
Publicity as a method of credit control has been very extensively used in the U.S.A. when the Federal Reserve System regularly publishes reports regarding the credit creating activities of the member banks. The method is also widely used by the Central Bank in Germany and Sweden. The State Bank of Pakistan also periodically published returns and statements about the affairs of commercial banks. There is some controversy going on amongst the economists with regard to effectiveness of publicity as a method of credit control. While some economists feel that publicity is useful instrument of credit control, there are others who are of the opinion that it is at best only a minor instrument of credit policy.
7. Direct Action: The method of direct action is most extensively used by the Central Bank to implement their credit policies. This methods can be used to enforce both quantitative as well as qualitative credit controls by the Central Banks. This method is not used in isolation, it is used as a supplement to other methods of credit control.
This method of direct action implies the use of coercive measures against those commercial banks whose credit policies do not confirm to the declared objectives of the Central Bank. This method also involves the issuing of general instructions by the Central Bank to all the commercial banks. It may also take the form of special instructions by the Central Bank issued to erring banks. It should however by remembered that the method of direct action is sued only as last resort when other methods fail to yield the desired result.
The method of direct action can prove effective only when the Central Bank is armed with sufficient Legal powers to enforce its directives on the commercial banks. Hence the Central Banks in several countries have been given statutory powers to take drastic action against the defaulting banks. According to recent Central Banking legislation, the Central Banks in different countries have been given extensive powers under the law to formulate the general credit policy to be followed by the commercial banks. They have also been authorized to prescribe rates of interest to be charged on different types of loans and advances.

Quantitative Credit Control

The important quantitative or the general methods of credit control are as follows.
(i) Bank Rate or Discount Rate Policy
(ii) Open Market Operations
(iii) Variable Cash Reserve Ratios
These methods are discussed in brief as under.
(i) Bank Rate or Discount Rate Policy: The bank rate policy is one of the principal methods of general credit control. It is the earliest method of credit control which was used by the Bank of England till the out break of the First World War. But later on with the change in economic conditions in Great Britain, the bank rate policy became rather ineffective and the Bank of England was compelled to advise other methods of credit control which were more effective than bank rate policy. The Central Bank, thus tries to control credit (through Bank Rate Policy) by influencing both the cost as well as the availability of credit. The cost of credit is influenced by changing the bank rate. By raising the bank rate or the discount rate, the Central Bank raises the cost of credit and by lowering the bank rate or the discount rate, it lowers down the cost of credit. The bank rate policy also affects the availability of credit by changing the conditions under which the Central Bank grants loans to the commercial banks. Thus the bank rate policy influences both cost as well as the availability of credit.
(ii) Open Market Operations: Open market operations as a method of credit control developed only after the First World War. The term ‘Open Market Operations’ is used in two senses. In the narrow sense open market operations imply the purchase and sale by the Central Bank of government, securities in the money market. Bank in the broad sense this term implies the purchase and sale by the Central bank not only of government securities but also of other eligible papers like bills and securities of private concerns.
(iii) Variable Cash Reserve Ratio: This method of credit control requires variations in the cash reserve ratio of commercial banks. It was first suggested by Lord Keynes who did much to popularize it as a method of credit control by the Central Bank. The theory underlying the method of Variable Cash Reserve Ratio is that by changing the cash reserve ratio, the cash reserves of the commercial banks can be directly changed, affecting thereby their ability to create credit in the economy. This can be illustrated by an example. Let us suppose that the commercial banks have excessive cash reserves on the basis of which they are creating too much credit. The Central Bank considers this over expansion of credit as harmful for the larger interests of the economy. So it will raise the cash reserve ratio which the commercial banks are required to maintain with the Central Bank. This will automatically sterilize a part of the cash reserves of the commercial banks and force them to curtail the creation of credit in the economy. In this way by raising the cash reserve ratio of the Commercial Banks, the Central Bank will be able to put an effective break on the inflationary expansion of credit in the economy.

Credit Control and its Objectives

The present day economy is referred as the credit economy because credit has come to play a predominant role in modern economic system. The over whelming majority of business transactions particularly in western countries are settled through the use of credit instruments by the parties concerned. Infact it would not be wrong to say that credit is the lift-blood of modern business. We are already aware of the fact that credit plays the same role in the economy as money. As such exchanges in the volume of credit have exactly the same effect on the internal price level as changes in the supply of money. It therefore becomes necessary to exercise some control on the creation of credit for the smooth functioning of the economy. A free and unlimited creation of credit by the commercial banks possesses a serious threat to the national economy. Hence it becomes necessary to keep the creation of credit under the control of Central bank. The central bank is the most appropriate body to control the creation of credit in view of its functions as the bank of issue and the custodian of cash reserves of member banks.
OBJECTIVES OF CREDIT CONTROL
The important objectives of credit control are given below.
1. STABILITY IN THE INTERNAL PRICE LEVEL
As is well known, the economy of a country suffers a good deal as a result of violent fluctuations in the internal price level. Hence the main objective of credit control is to establish stability in the internal price level. If the supply of credit is less than the commercial requirements, there is sure to be decline in the price level. If on the contrary the supply credit exceeds the commercial requirements the internal prices are bound to rise up. Hence the commercial banks should try to bring about a proper adjustment between the supply of credit and the commercial requirement of the country.
2. CONTROL OF THE BUSINESS CYCLE
As is well known, the operation of the business cycle causes an atmosphere of economic stability in a capitalist country. Hence the objective of credit control policies of the central bank should be to eliminate or at least to reduce the havoc caused by business cycle. By varying the supply of credit, the Central Bank can, to some extent, control the operation of the business cycle.
3. STABILITY IN EXCHANGE RATES
Introducing stability in the foreign exchange rates can also be an objective of the credit control policy of the central bank. The instability in exchange rates can have harmful repercussions on the foreign trade of the country. Hence central bank in those countries whose foreign trade is important should pay special attention to the elimination of violent fluctuation in foreign exchange rates through credit control policy.
4. STABILIZATION OF THE MONEY MARKET
According to some economists, the credit control policy of the central Bank should aim at the stabilization of the money market in the country. To achieve this objective, the Central Bank should neutralize seasonal variations in the demand for funds. It should for example provide extra credit in times of emergencies. Infact the control on credit should be exercised by the Central Bank in such a manner as to bring about an equilibrium in the demand and supply of money at all times.
5. PROMOTION OF ECONOMIC GROWTH
The objective of credit control policy is backward and under developed countries should be able to promote economic growth within the shortest possible time. Generally speaking the economic development in these countries is retarded an account of lack of financial resources. Hence the Central Bank in these countries should try to solve the problem of financial stringency through planned expansion of bank credit.
6. PREPARATION OF WAR
Sometimes, the objective of the Central Bank is to prepare the country for war through expansion of credit to enable the government to meet its financial requirements. Modern wars are so expensive that it is not possible to meet their costs without adequate expansion of bank credit. During the Second World War almost every country resorted to expansion of credit on large scale to meet the rising war expenditure.

Role and Functions of State Bank of Pakistan

Immediately after partition the newly born stat was faced with a serious banking situation due to the who sale immigration of banking staff to India. The Reserve Bank of India showed reluctance in solving the banking crisis in Pakistan. It rather created further difficulties by refusing to give Rs. 55 Crore which Pakistan was entitled to share the cash balance of the undivided India. The Govt. of Pakistan then realised that the Reserve Bank of India cannot be relied upon and further dependence on it would endanger the very existence of Pakistan. It therefore decided to establish its own currency authority. The Governor General of Pakistan Quaid-e-Azam Muhammed Ali Jinnah issued order of establishment State Bank of Pakistan on 1st July 1948. According to State Bank order of 1948, the bank is entrusted with the duty of regulating the issue of bank notes and keeping of reserve with a view to seeking monetary stability in Pakistan and generally to cooperate currency and credit system of the country to its advantage. The order of 1948 has been substituted by State Bank of Pakistan Act 1956 which requires the bank “to regulate monetary and credit system of Pakistan and to foster its growth in the best national interest with a view to secure stability and full utilization of the country’s productive resources”.
The functions of State Bank of Pakistan are governed by the State Bank of Pakistan Act 1956 State Bank of Pakistan will continue performing its four basic functions. (i) Framing and operation of monetary policy (ii) Regulations and supervision of banks and financial institutions (iii) Foreign exchange management (iv) Settlements of payment and accounts. The basic functions performed by State Bank of Pakistan are now discussed in brief as under.
1. STATE BANK AS A BANK OF ISSUE
The State Bank of Pakistan has the role right to issue notes except subsidiary coins which are issued by the Government. The Bank adopted the Proportional Reserve System for the issue of notes upto December 1965. The level of currency banking by gold bullion, foreign securities is now fixed 1200 million through an ordinance in December 1965. This system of note issue is known as minimum Reserve System. The size of notes issue reflects the public demand for money. The amount of notes in circulation can be increased to meet the public demand and are adjusted according to the general level of prices and economic activity in the country. The assets of the Issue Department are always equal to liabilities.
2. FRAMING AND OPERATION OF MONETARY POLICY
The State Bank of Pakistan frames and operators the monetary policy. Monetary policy is conducted by the State Bank of Pakistan to regulate and control the volume of money and credit supply in the country in order to achieve specific economic objectives such as price stability, reducing unemployment, etc. The main instruments of monetary policy are (i) Open market operations (ii) Changing the reserve requirement and (iii) Changing the discount rate.
(i) Open market Operations: Open market operations technique is used for expanding or contracting the money supply in the country. By buying the Govt. securities in the open market, the State Bank of Pakistan expands the money supply and by selling securities it contracts the money supply in the country.
(ii) Changing the reserve requirements: The state bank of Pakistan also controls the money supply in the country by changing cash reserve requirements of the commercial banks. An increase in the cash reserve ratio reduces the excess reserves of the bank and curtails the powers of the banks to advance loans. The decrease in the cash reserve ratio increases the cash reserves of the commercial banks which increase the capacity of the banks to advance more loans. The State Bank of Pakistan now requires the scheduled banks to maintain at least 35% of demand and time liabilities with it.
(iii) Changing Discount rate: The bank rate is the rate of interest at which the State Bank of Pakistan discounts the first class bills of exchange. The rise in the bank rate pushes up the cost of borrowing of commercial banks and reduces money supply in the country. A decrease in the bank rate works in the opposite direction.
3. REGULATION AND SUPERVISION OF BANKS
The State Bank of Pakistan has full powers to supervise and control the banking system in the country. The regulatory powers relate to the licensing of banks, and their branch, expansion, liquidity of assets of banks, management and methods of working of the banks amalgamation and reconstruction and liquidation of banks, inspection of banks etc.
4. FOREIGN EXCHANGE MANAGEMENT
The State Bank of Pakistan acts as custodian of foreign exchange reserves manages exchange control and external value of the rupee and acts as the agent of the government in respect of Pakistan’s membership of IMF. An important aspect of foreign exchange management is that all foreign exchange transactions are made at the official rate of exchange. It also maintains the exchange value of the rupee in terms of other major currencies of the world.
5. STATE BANK AS A CLEARING HOUSE
The State Bank of Pakistan acts as Clearing House for the commercial banks. A clearing house is a place where representatives of commercial banks meet each day to exchange cheques drawn on each other and then settle the differences owed to each other. State Bank thus helps the commercial banks in making millions of payments by a minimum of transactions.
6. ADVISOR TO GOVERNMENT
The State Bank of Pakistan also acts as advisor to government in all financial matters. Since State Bank of Pakistan is directly involved in the money and foreign exchange markets, it, therefore, tenders advice on all economic matters. It also provides advice to commercial banks and other financial institutions and to commerce and industry in general.
7. LENDER OF LAST RESORT
The State Bank of Pakistan is the lender of last resort for the commercial banks. It at any time the banks are short of cash reserves, the State Bank of Pakistan comes to their rescue. It provides cash to commercial banks by rediscounting bills of exchange and treasury bills. The State Bank of Pakistan thus helps and maintain liquidity ad solvency of the commercial banks.
8. STATE BANK AND ECONOMIC GROWTH
The State Bank of Pakistan is playing a significant role in facilitating and fostering economic development and growth of banking system and other financial institutions in the country. The main development promotional activities of the Bank are as follows.
(a) The development of the capital market in the country owes a great deal to the efforts made by the State Bank of Pakistan.
(b) Under the State Bank’s Export Finance Scheme, the commercial banks provide finance to the exporters at the concessional rate.
(c) The State Bank of Pakistan has helped in the establishment of specialized credit institutions for meeting the medium and long term credit needs of the various sectors of the economy. These institutions include IDBP, NIT, EPF (Equity Participation Fund), HBFC, ICP (Investment Corporation of Pakistan) Banker’s Equity Limited, Pakistan Industrial Credit and Investment Corporation, Small Business, Finance Corporation etc.
The following functions which the State Bank of Pakistan hade been performing and which involved public dealings have been transferred to the State Bank of Pakistan Banking Services corporation. The new corporation has started functioning from January 2, 2002 as a subsidiary organization of State Bank of Pakistan.

Bank of England as Mother of all Central Banks

After the abandonment of barter system the development in the monetary system started taking place. According to G. Growther the present day banker has three ancestors (1) the merchants (2) the gold smiths (3) the money lenders. When every money lender of gold smith issued receipts and most of them allowed the overdraft, there was then too much confusion in the banking system. The money lenders and gold smiths in order to earn profits could not keep adequate reserves for meeting the demands of the customers for cash. The failure on the part of the money lenders and gold smiths to return money caused wide spread distress among the people.
In order to create confidence among the people, steps were taken to regulate the banking organization. A conference was held in Nuremburg in 1548. It was decided that a bank should be setup by the state which should streamline the banking organization. Accordingly central bank came into being. The central banks were of two types in the beginning (1) They were joint stock banks and later on they were aimed economic stability (2) They were setup for the implementation of the monetary policy so that purpose of economic stability could be attained. Accordingly the oldest central bank of the world the Risks Bank of Sweden was setup in 1668. The central bank of Britain the Bank of England was established in 1694 on modern lines, so that it could provide loans to govt. Hence it is called the mother of all enteral banks. It is called sp because all the central banks of the world followed the same basic principles on which the Bank of England was established. In 1844 the notes issued by the Bank of England got the legal status. In this way it really became a central bank, because it got the power to issue notes (2) It assumed the role of government’s bank (3) It obtained the power to control foreign trade and foreign transactions. Then later on it was accorded as last resort for the banks and banker’s bank. These are the main functions which the central banks of the world performing at present. By assuming these powers and functions the Bank of England became the authority in money transactions and regularization of monetary policy. It became chief of money and banking system in England. The main objective before it was to attain economic stability of Great Britain. Therefore it was entrusted with complete monopoly powers regarding monetary control. After the establishment of the Bank of England the people of Great Britain started trusting the banking system. The confidence in banking system came into them. These are the reasons for which the Bank of England is being called the mother of all central banks of the world.

Central Bank

According to Prof. Shaw “Central Bank is an institution which controls credit”. While Prof. Hawtry says “The main function of Central Bank is that it should serve as a last resort for commercial banks”. In the words of R. P Kent “Central Bank is an institution which perform the function of expansion and contraction of money supply”. Prof. M. H De-Kock who wrote his esteemed book “Central Banking” defines central bank and its functions as
“Central Bank is a chief of money and banking system of a country. Therefore it possesses different types of powers to control money and banking of the country”. In this respect it performs the following functions.
1. To control money supply in such a way that the needs of business enterprises and general public could be met. For this purpose it has complete or partial monopoly over issuing of notes.
2. It provides the same services to the govt. which are provided by commercial banks to their customers.
3. It supervises the cash reserves of commercial banks.
4. It is a custodian of foreign exchange and gold reserves of the country.
5. It is bankers bank it discounts the bills of exchange serves as last resort of banks, particularly when they do not have any source to get the loan.
6. It settles the accounts between commercial banks.
7. It controls credit in accordance with the needs of the country that the monetary policy could effectively be used.
Keeping all these definition in view the central Bank may be defined as the apex banking and monetary institution whose main function is to control regulate and stabilize the banking and monetary system of the country in the national interest.

Functions of the Central Bank

The functions of the Central Bank differ from country to country in accordance with the prevailing economic situation. But there are certain functions which are commonly performed by the Central Bank in all countries. We have mentioned above such functions of the Central Bank narrated by De-Kock. Now let us discuss all these functions in detail.
1. Monopoly Over issuing Notes: The main objective of a Central Bank is to attain economic stability. Therefore, it has been entrusted with complete or partial monopoly powers regarding issuance of notes. This is the basic function of Central Bank. Because of this function they have been accorded as “Bank of Issue” for a long time.
2. Banker, Agent and Advisor to the Government: Central Bank provides same services to govt, which are provided by the commercial banks to their customers. As Central Bank keeps the deposits of all the govt. departments. Again the govt. expenditure is made through Central bank. As the salaries, pensions are paid to govt. employees from the State Bank of Pakistan in our country.
Central Bank advances short term loans (for 3 months) to govt, so that during such period govt may be able to have revenues in the form of taxes etc. Again Central bank helps govt. during wars and emergencies however central bank advances govt. for commodity operations where govt. has to purchase goods in bulk of amount. To have the public debt central bank serves as an agent to govt. It sells and purchases govt. securities it provides advisory services to govt. It guides govt. regarding different economic issues like devaluation of currency, adoption of fixed or flexible exchange rate system etc. It keeps a close link with the money market of a country. It helps govt. in making the decisions regarding amount of credit, targets of credits and allocation of credit in different sectors and regions. It is central bank which coordinates between fiscal and monetary policies so that the broader economic objectives could be realized.
3. Custodian of Foreign Exchange and Gold Reserves: Most of central bank has to keep gold while issuing notes. As a result all the gold reserves of a country are placed with the central bank. In addition to gold the foreign exchange reserves are also with central bank because most of countries have to exercise exchange control whereby the citizens of a country can not keep foreign exchange with themselves. Moreover the citizens of a country who are need of foreign exchange have to get it from central bank. All this means that whole of the foreign exchange reserves are in the possession of central bank.
4. Banker to Commercial Banks: Central bank is a banker to banks. Therefore it is the function of a central bank to establish a suitable and proper type of banking structure in the country. In this way, not only credit requirements of different sectors could be met, but the central bank could also be able to have a greater control over the activities of a commercial banks. Therefore all the commercial have to keep a certain proportion of demand and time deposits with central bank. With such reserves the central bank can influence the credit activities of commercial banks. The central bank recounts the bills of exchange offered by the commercial banks. In this way it provides loans to commercial banks. It also serves as a clearing house for the commercial banks.
5. Lender of the last Resort: The central bank serves as last resort for the commercial banks particularly when they do not have access to other sources. In addition to commercial banks, it also serves as lender of last resort for govt.
6. Controller of Money Market: The utmost function of central bank is to control money and credit, particularly it has to peek an eye on credit expansion. The changes in money and credit do have a variety of effects on the economy. Whenever the supply of money and credit exceedingly increase the purchasing power of money will decrease, leading to create inflation. Therefore, the central bank ahs to control credit for the sake of controlling inflation. For this purpose it exercises the monetary management. While during inflation central bank has to follow an easy monetary policy for the sake of removal of deflation.

Importance of Central Bank

Basically the central bank of govt. therefore it improves exchange control which leads to efficient allocation of foreign exchange. When foreign exchange is opimally allocated, all such will have a positive effect on agri and industrial outputs. Thus output and employment will increase. Consequently, central bank will be helpful in taking the economy on the path of economic development. It is the central bank which controls and regulates the foreign exchange and foreign exchange rates, if central bank realises that the country’s balance of payment is deficit it can suggest to the govt to devalue the currency. Because of the devaluation the exports of the country will be cheaper while imports expensive. In this way, export surplus could be used for economic development.
Central bank gives suggestions and opinions to govt. regarding different economic issues. It issues reports regarding sectors of economy. It keeps the deposits of govt’s foreign exchange and gold reserves of countries. It makes the training of banking personnels, acquaints them with modern trends of banking, it arranges for seminars, refresher courses and work shops. Such all may be accorded as investment in man which will contribute to the economic growth.

Importance of Industrial Development Bank

The Industrial Development Bank of Pakistan is one of the leading financial institutions of Pakistan. It was established in 1961. Prior to nationalization of banks in January 1974 the IDBP had a paid up capital of Rs. One billion of which 51% was held by the Federal Government and rest by provincial governments, commercial banks, insurance companies and other Pakistan private investors. On nationalization of banks, the entire share capital previously held by private individuals and other institutions was transferred to Federal Government.
A unique feature of IDBP now is that it is also a scheduled bank and an authorized dealer of foreign exchange. The IDBP thus operates as a full fledged commercial bank in addition to its role as a developmental financial institution.
In 1989 the IDP began to provide universal banking fascilities to its clients. As a universal bank IDBP is committed to diversification of its banking business. It is providing combination of commercial banking and investment banking services to its clients. It is maintaining close links and having extensive consultations with its customers in private sector. The IDBP operates in frame work of the development programme for the private sector. Its prime objective is wide diffusion of credit and broad based ownership for creating middle class of industrial entrepreneurs.
In order to obtain its objectives, the IDBP, it performs the following functions.
(i) Provides medium and long term loans in local and foreign currency for the establishment of new industrial units and for modernization and replacement of existing units in the private sector.
(ii) Guarantee loans, debts and credits raised or incurred by an industrial concern.
(iii) Undertakes complete commercial banking business.

(iv) Undertakes merchant banking business (under writing of public issue of shares, leasing etc.)
(v) Administers the Equity Participation Funds.
(vi) Acts as refinancing agency in respect of the world. Bank and Asian Development Bank, Credit to small scale industrial units.
(vii) Extends consultancy and technical assistance service to clients in the execution and management of projects.
The financial health of the IDBP is not satisfactory at present. It is facing serious problems of non-payment of loans. This has adversely affected the profitability and liquidity of the Bank. The major factors contributing to its low performance are (i) inadequate legal and judicial system (ii) deteriorating culture system (iii) general slow down of the economy (iv) adverse impact of sanctions, etc.
The IDBP had equity of Rs.907 million as on June 2003 against which the total losses stood at about Rs.24 billions. The bank has also failed to maintain the required paid up capital up Rs. 1 billion.
The new focus of Bank is to shift the operational emphasis to commercial banking operations. Emphasis is also being laid on providing export finance and meeting the sunning financial needs of the existing industrial projects.

Agriculture Development Bank

Zarai Taraqiati Bank formerly known as Agriculture Development Bank of Pakistan is now one of the main credit supplier to the agriculture sector in the country. It was established in 1961 by the merger of Agriculture Development Finance Corporation (ADFC) and the Agriculture Bank of Pakistan (ABP). The Zarai Taraqiati Bank (ZTBL) or Agricultural Development Bank of Pakistan has its head office in Islamabad. It concentrates on modernization of agriculture, increased farm productivity with emphasis on the provision of credit to small farmers and rural women. The credit is provided to the farming community for the purchase of primary inputs like fertilizers, pesticides, machinery, poultry farming, dairy farming etc. It aims at rural self-employment and poverty reduction of the farmers in the villages. The ZTBL advances short, medium and long term loans to the farmers. The short term loans are given for financing the cost of raising, processing and marketing of crops and other agro based industries. The medium term loans are provided for the purchase of agricultural implements, levelling of land and setting up of agro-based industries. The long term loans are provided for the purchase of tractors, installing of tube-wells, construction of ware houses etc. The various loan operation of given below.
1. DISBURSEMENT OF LOANS
Total agricultural loans amounting to Rs. 93 Billion were disbursed to the farming community for the purchase of primary inputs, tractors, poultry and live stock sector in 2004-05. Its share in the supply of total agricultural credit was 34.1%.
2. ROLE IN POVERTY REDUCTION
ZTBL is supplementing the Government’s programme for poverty alleviation. It is providing financial assistance to rural poor in
(i) Credit programme for women and (ii) Micro credit scheme.
3. FARM MECHANIZATION AND WATER RESOURCE DEVELOPMENT
The ZTBL is helping the Government for increasing farm productivity and achieving self-sufficiency in food production. For achieving this objective, the Bank has played a Key role in providing finance for the purchase of tractors, installation of tube-wells, threshers, combine harvesters and other farm implements which help in increasing farm yields.
4. ONE WINDOW OPERATIONS
The provision of loans to the farmers at one place is the most successful scheme of the Bank. The small farmers holding 26 acres of irrigated land or 50 acres of un-irrigated land are getting benefit under this scheme.
5. CREDIT TO WOMEN PROGRAMME
The main object of this scheme of ZTBL is to make credit available rural women through female Mobile credit officers. The Bank under this scheme has disbursed very large amount in rural women for farming and non-farming activities such as poultry, fishery, orchard, forestry etc.
6. MICRO CREDIT SCHEME
The ZTBL has launched Micro Credit Scheme since 2000 to engage rural poor in increasing income through engagement in cottage industries.
7. REVOLVING FINANCE SCHEME
This scheme is operational since 1999. Under this scheme the loan is provided to the credit worthy of farmers for meeting the seasonal agricultural requirements.

Causes of the Failure of Banking System

If we look into the banking system of Pakistan, we find several causes of its failure. The main causes of the failure of the system are discussed below.
The number of bank office in Pakistan is yet not adequate. For this reason people can not enjoy the fascilities which banks can offer. In the absence of banks, people do not get encouragement for saving and capital of country does not grow. The credit Inquiry commission’s report in Pakistan revealed the in adequate banking fascilities in the country. It revealed that there is only one bank office per 1,50,000 people. But in USA and the UK there is one bank office per 7,000 and 4,000 population respectively. The scheduled banks in Pakistan advance loans in greater number. This difference in the distribution of banking fascilities is a sign of defect in our banking system. There should be adequate number of banks in the country to encourage people to saving habit and to extend credit to the industrialists, agriculturists, traders, and other needy people for the development of the country. The banks of Pakistan must launch campaign to popularize, the banking habit. Because our people do not have the banking habit, i.e. they are not acquainted with the valuable services that banks can render them.
Secondly Pakistan has no developed money market. The money market in Pakistan is undeveloped due to the absence of the bill market. Without a developed bill market, the central bank cannot effectively control the credit system adopting open market operation. Besides the bank rate policy of central bank cannot be operative if the money market is not well-developed and well integrated.
Thirdly the large concentration of credit with a limited number of industrialists of bigger means is another defect in our banking system. According to the report of the Credit and Inquiry Commission banks advance loans only to the bigger industrialists. So credit is inadequate to small business industries. Fourthly the seasonal fluctuation in the volume of credit is another defect which is the cause of failure of our banking system.
Lastly seasonal variation and wide fluctuation in the rate of interest is another important problem of our banking system. During excessive demand for accommodation in the busy season of sowing and harvesting associated with festival and marriage season has been invariably followed by higher rate of interest.
It is obvious from the above points that our banking system has some defects due to which it is failed. These defects may be removed if the following measures are taken.
(i) Adequate number of banks should be opened in the rural areas of the country. If banks are opened in rural areas, villagers will get fascilities to save their small income depositing the same in the banks. At present National Bank of Pakistan is being given subsidy with a view to encouraging it to open branches in backward areas of the country. Other banks should also be given such subsidy.
(ii) To give loans to small industrialists the branches of specialized financial institutions should be set up and the State Bank of Pakistan should adopt such policies which will help the flow of credit from undesirable to desirable channels.
(iii) To avoid the seasonal fluctuations of the volume of credit the State Bank of Pakistan in cooperation with the other banks should try to solve this seasonal stringency.
It should be noted that the present banking structure of Pakistan stands on stronger footing. The Government of Pakistan and State Bank of Pakistan are trying to improve the banking system of the country. It may be hoped that within a very short period the banking system of our country will be able to keep pace with the banking system of developed countries.

Capital Market

As the name denotes the capital market is a market of capital funds. Accordingly by capital market we mean such a market where the transactions for new capital are made. “Therefore the capital market is consisted of people and institutions which become helpful in raising new capital. The financial institutions provide loans to those sectors of the economy where their capital is protected and the income from such advancing is sure and well estimated. The capital market is sub-divided into
(1) Primary Market and (2) Secondary Market
The primary capital market is concerned with the sale and purchase of new securities. The new securities are issued for the first time. While the secondary capital market is concerned with the sale and purchase of even the old and already issued securities. The financial institutions which are the components of money market make the transactions regarding monetary assets, monetary instruments and near monics. The purpose of such all instruments is to raise funds directly and indirectly. In this way capital market not only becomes a source of capital availability but it also leads to a better allocation of capital. Thus it serves as a ready market for those who wish to borrow or who wish to supply funds. The borrowers and lenders do not have to search out each other. Thus though money market a better relationship comes into being amongst the borrowers and lenders. In this way gap between demand for money and supply of money gets shortened. According the capital market promotes investment in a country.
MAIN INSTRUMENTS OF CAPITAL MARKET
The capital market instruments are debt and equity instruments. These instruments are not liquid in nature and have maturities more than one year. The principal capital market instruments are (1) Shares (2) Debentures (3) Mortgages and (4) Securities of the government. These instruments used in the capital market are discussed as under.
(1) Shares: Finance is essential to any business. The larger the business grows, the wider the sources of finance should be available to it. A public company raises capital through the sale of shares called equity financing and by borrowing named as debt de-financing. Shares are the equity claims on the net income and assets of a company. The holders of ordinary shares or equity shares are the real owners of the company. In case of bankruptcy claims of share holders are paid only after the other claims have been paid.
(2) Debentures: Debenture is a long term loan to the company with a very strong credit rating. Each year debenture holders receive a fixed rate of interest whether a company is making profit or not if the company goes bankrupt, the debenture holders must be paid before any other claim is met.
(3) Mortgages: Mortgages are long term loans provided to individuals, firms against tangible security. When the loan is not paid in accordance with the terms of loan the title of the property is transferred to the creditors. The commercial banks and specialised financial institutions are actively engaged in providing long term loans to business in Pakistan.
(4) Federal Investment Bonds: The Government of Pakistan mobilizes long term loans by the sale of Federal Investment Bonds having a maturity of 15 to 20 years. The objective of introducing this debt instrument is to mobilize private savings, contain inflationary pressure in the economy by absorbing funds of the financial sector and also to provide investment opportunities to the financial institutions.

What is Money Market?

Money market consists of all those institutions which raise short term funds. The short term borrowers consist of businessmen, whole-sellers, investors and firms. Thus money market is a market of short term transactions and the activities of this market comprise of discounting houses, commercial banks and central bank. Short run money market is concerned with the running and existing business. It is so because that the small firms borrow for short term loans to run their business. The short term funds are obtained from organised money market and unorganised money market. The organised money market consists of commercial banks while the unorganised money market consist of money lenders, Artihiyas, relatives and friends. In short run the funds are raised against financial documents, bills of exchange and short term securities. The commercial banks not only discount the bills of exchange, but also advance loans against mortgages. Thus the money market consist of govt. commercial banks, money lenders, brokers, businessmen firms etc. In money market the resources are raised from the whole economy and then are channelized into different sectors of the economy.
INSTRUMENTS OF MONEY MARKET
The main short term debt instruments traded in the money market are as follows.
(i) Treasury Bills: The treasury bills are the short term debt instruments issued by the central bank of a country. They are always issued on discount basis and the period of maturity ranges from 3 months to 12 months. The government of a country pays a set amount at the maturity of the bill and have no interest payment.
The state Bank of Pakistan has been actively engaged in the market oriented monetary policies it is pursuing open market operations in order to manage government debt and the reserve money. Since 1998 the State Bank of Pakistan has introduced market treasury bills of 3, 6 and 12 months maturity.
Treasury bills are the most liquid of all the money market instruments. They are also the safest among all of them as there is no possibility of default in them. The federal Govt: is always able to meet its debt obligations.
(ii) Bill of Exchange: Bill of exchange is another important short term debt instrument. The commercial banks advance loans by discounting bills of exchange of their client. These loans are granted to meet the working capital requirements of the firms.
(iii) Call Loans: Call loans are loans which are granted for a very short period not exceeding 15 days in any case. Bill brokers and dealers in the stock exchange generally borrow money at call from the commercial banks. The borrowers have to repay the money immediately whenever the banks call these loans back. No collateral securities are needed against these loans.
Some times the lenders and borrowers of call loans are commercial banks only. The banks with surplus funds lend to the banks with credit funds for a day and are renewable on day to day basis.
(iv) Banker’s Acceptance: A banker’s acceptance is a draft issued by a firm upon a bank and accepted by it. The bank here is required to pay to the order of a specific party or to the bearer a specific sum of money at some future date. Banker ’s acceptances are used mostly in financing the commercial transactions both drafts can be sold or discounted in the money market named acceptance market.
(v) Repurchase Agreement (Repos): Repos re short term loans which usually mature within less than two weeks. Here the treasury bills serve as security for the loans. Repos are important source of bank funds.

Remedies to Remove Defects of Money Market

1. Uniformity be brought in the policies of all financial institutions of the country and they be brought under the complete control of State Bank of Pakistan.
2. Activities of saving institutions FCP and NIT by published widely. The share holders be exempted from income tax. The people be acquainted with the securities, shares and stocks etc.
3. Branches of Banks and financial institutions be opened in the small towns and villages so that the villagers could borrow. Moreover to promote savings different schemes be introduced.
4. The banking system be modernized, the conservative banking be replaced by modern banking, and the inefficient personnel be replaced by efficient bankers and financial experts.
5. While recommending and approving the cases the feasibility of projects be entertained, rather considering the political will and affiliation. The strict policy be followed regarding recovery of old debts.
6. The cheap credit policy be followed in organised money market. In this way the unnecessary demand for loans will come to an end, the savings will be promoted end inflow of foreign capital will increase.

Defects of Money Market

Our money and capital market is prey to financial dualism. It means that we have two types of money market.
(1) Organised money market
(2) Unorganised money market
The organised money market consists of
(i) State Bank of Pakistan (ii) Commercial Banks (iii) Cooperative banks (iv) Financial institution (v) Insurance companies. While unorganised money market consist of (i) Money Lenders (ii) Brokers (iii) Businessmen and merchants (iv) Friends and relatives (v) Land lords.
Following are the major properties of our unorganised money market.
(a) There is direct link between borrowers and lenders.
(b) The account system is very simple and crude.
(c) The repayment of the loan is also made in the form of grains.
(d) Financial deals are often kept secret.
(e) The rate of interest is high.
(f) It deals with the small businessmen and agriculturists. It means that the major share of domestic population is out of jurisdiction of organised money market.
(g) There is meagre transfer of resources from both markets.
Because of the problems mentioned above our money market is highly fragmented and it has led to create the following problems.
(1) There is reduced use of cheques. People do not know much about the modern financial documents like cheques, drafts, securities and debentures.
(2) The transactions particularly in the villages are non-monetary rather than monetary.
(3) Because of difference in markets there prevail centuries old methods of savings i-e people make their savings in the form of silver, gold and land etc. People hardly know the investment opportunities. The villagers have never heard the name of stock exchanges which are confined to just Lahore, Karachi and Islamabad. The villagers keep their monks with the land lords, money lenders and such other people and get back whenever they are in need of it. The money lenders, land lords and arthiyas do not pay any interest against such deposits. On the other hand, the charge heavy interest against the loans borrowed from them y the poor peasants and tenants.
(4) The stock exchange, ICP, NIT like financial institutions are confined to big cities only. In addition to them commercial banks and specialized credit institutions are also situated in big cities. The urban residents deposit their amount and borrow from these institutions. Where as there are reduced banking fascilities in the village, they neither have the inspiration ot save nor they can avail the opportunity to borrow from banks.
(5) Because of the separate markets there exists a big difference in the rate of interest. In the organised money market the rate of interest is low, the borrowers has the greater opportunities to borrow, the commercial banks can enhance their resources by borrowing from Central Bank, World Bank or selling their shares, the commercial banks follow the bank rate while setting their interest rate, and the central Bank is a chief organised money market, on the other hand, the rate of interest is very high in case of unorganised money market, the lenders provide the loans in a very limited amount, the loans are advanced under very strict conditions and the mortgages are hardly offered by the borrowers.
(6) The arthiyas, money lenders and land lords have monopoly power in unorganised money market. The poor peasants and small traders are at their money. The poor farmers are found very much weak when we find the element of uncertainty in agriculture sector. The uneconomic holdings, big families, disguised unemployment and the natural clamities greatly torture the farmers. In such state of affairs who will lend them? No to talk of commercial banks, the agricultural and cooperative banks are found hesitant in advancing the loans to farmers.
(7) The poor businessmen and farmers not only have to pay heavy interest rate, but also they do not have any share in the foreign exchange reserves of the country where as the small farmers and traders greatly contribute to the earnings of foreign exchange through exportation of cotton and rice etc. Such foreign exchange is allocated to big businessmen who are concerned with organised money market.
(8) Despite shortage of foreign exchange in the country and deficit in the Balance of Payment, the cheap credit money policy is adopted. The exchange rate is artificially kept at low level by following exchange controls. In this way the divergence between organised and unorganised money market widens. The policy of lower rate of interest benefits the big businesses and industrialists, which promotes the unequal income distribution in the country. But because of lower interest rate, the level of savings remain low, demand for loanable funds remain high and the inflow for foreign capital also remains low. The rate of interest deliberately kept at lower level of the organised money market, even below the bank rate.
(9) After 1959’s credit commission recommendations 1974’s nationalization of Commercial banks and establishment of NCCC is was hoped that agri sector will be able to have a greater share in the distribution of credit. But statistics reveal that the major share of agri loans is taken away big the big land lords while the small farmers have a meagre share in agri credit.
(10) All the specialised credit institutions in the organised money market are directly or indirectly government controlled. But these institutions and corporations are furnished by official formalities. People are hardly aware with the modern concepts of money and savings. The broker class is hardly available which could create a link between the saves and investors. The Commercial bank and Corporation follow discriminatory policies. They are kind to big businesses because they think that this class makes the productive investment. While the poor farmers and traders spend the borrowed money on unproductive fields like marriages, liligation and social taboos. According to Prof. Hala Mynt “the banking procedure and rigid law of banks serve as big obstacle in the way of advancing to backwards sector”. To provide loans to agri sector the banks have to face heavy expenses and they are not hoped to get them back.

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