Question

Explain the following functions of the central bank: (i) Bank of issue (ii) Banker's bank.

Answer 1

$Centralbankactsasbanke{r}^{\prime }sbankinthreecapacities$:

(i) It is the custodian of their cash reserves. Banks of the country are required to keep a certain percentage of their deposits with the central bank; and in this way the central bank is the ultimate holder of the cash reserves of commercial banks, (ii) Central bank is lender of last resort. Whenever banks are short of funds, they can take loans from the central bank and get their trade bills discounted. The central bank is a source of great strength to the banking system, (iii) It acts as a bank of central clearance, settlements and transfers. Its moral persuasion is usually very effective so far as commercial banks are concerned

$Bankofissue$

The central bank is given the sole monopoly of issuing currency in order to secure control over volume of currency and credit. These notes circulate throughout the country as legal tender money. It has to keep a reserve in the form of gold and foreign securities as per statutory rules against the notes issued by it. It may be noted that RBI issues all currency notes in India except one rupee note. Again, it is under the directions of RBI that one rupee notes and small coins are issued by government mints. Remember, the central government of a country is usually authorized to borrow money from the central bank.