Pokhara University BBA Financial Institutions and Markets Notes: Chapter 2 – Central Banking

1. Define central bank. What are the objectives of central bank? Central bank is a bank that provides financial and banking services for the government of a country and its commercial banking system as well as implementing the governments monetary policy. The objectives of central bank are: Regulating the economic activities-facilities flow of funds to promote economic activities. Generate adequate employment production and purchasing power-formulate and conduct monetary policy to generate maximum economic benefits. Protecting the national interest-provide cushion to depositors. Correct balance of payment to minimize fiscal deficits and to determine foreign exchange rates enhance foreign exchange earnings through favorable promotion of foreign trade. Maintain sound currency system-keeps inflationary pressures in check and vice versa. 2. What are the objectives of Nepal Rastra Bank? The objectives of Nepal Rastra Bank are: To formulate necessary monetary and foreign exchange policies in order to maintain the stability of price and balance of payment for sustainable development of the country. To promote economic stability and liquidity required in banking and financial sector. To develop a secured, healthy and efficient system of payment. To regulate inspect, supervise and monitor the banking and financial system. To promote entire banking and financial system of the kingdom of Nepal and to enhance its public credibility. 3. Describe the functions of Nepal Rastra Bank. The functions of Nepal Rastra Bank are described below To manage note issue and money in circulation in the economy. To formulate necessary monetary policies in order to maintain price stability and to implement these policies. To act as the banker of commercial banks and financial institutions and function as the lender of the last resort. To act as a banker, an advisor and a financial agent of his majesty’s government. To implement any other necessary functions which the bank has to carry out in order to achieve the objectives of the bank under this Act. 4. What is discount rate, and how a central bank applies discount rate to control money supply? The rate charged by the central bank to commercial bank is called discount rate. The central bank usually undertakes to the banking system and to buy approved securities for meeting the temporary needs of short-term liquidity. This responsibility makes a central bank to act as a lender of last resort. A penal rate of interest is frequently charged in order for mis using facilities. In establishing an appropriate discount rate, the monetary authorities need to pay close attention to market interest rate. A tight monetary policy may need to incorporate a discount rate that is significantly above private sector interest rates or other condition may need to be attached to central bank loans to banks. This ensures a penal cost in conjunction with other tools of monetary policy to ensure a well-balanced package of measures. 5. What is open market operation? Buying and selling of securities to control money supply is called open market operations. They are supplement ta an active public debt policy. In our country, Nepal Rastra Bank has used open market operations are designed. 6. How money supply is adjusted through the discount rate? If the discount rate exceeds market interest rates, for example on bank loans, then this can act as a deceptive in using funds borrowed from the central bank to accumulate reserves as a base on which additional private sector lending can be built. Similarly, if the discount rate is below market rates of interest then it is clearly profitable for the banks to borrow from central bank in order to facilitate the expansion of their lending to private. Hence, expansionary activities are used to lower the discount rate and contractionary activities is used to raise the discount rate. 7. What are the main responsibilities of the central bank board? The main responsibilities of the central bank board are It is balancing of the monetary system in the economic. It serves in different capacities in coordinating the plans, policies and strategies of money supply and its creation. It controls inflation, money supply, price level others: - Foreign currency management - Effective debt management - Valuable advice to the government - Maintaining relationship - Money supply and creation - Measuring leading economic variable 8. What are the main assets and liabilities of central bank? The main assets and liabilities of central bank are: a. Assets of central bank - Securities mainly in the form of government bond. - Foreign exchange reserve which are mainly held in the term of foreign bond issued by foreign government. b. Liabilities of central bank - Currency which is held by the public. - Commercial bank account which is known as reserve, where commercial banks keep their deposits with the central bank. 9. What are the major differences between central bank and commercial bank? The difference between central bank and commercial bank are: Central Bank Commercial Bank It is established under government ownership. It is established under government and private ownership. In a country there is only one central bank. In a country there may be a more number of commercial banks. It is conducted exclusively under government control. It is conducted under central bank’s control.