Banking Awareness: Cheap Money Policy & Nature and Functions of Credit
Cheap Money:
Cheap Money means low rats of interest. The Central Bank of a country can, through an appropriate monetary policy, keep the market rates of interest low Keynes recommended that it should do so, because cheap money has the following advantages.
- It keeps production coasts low.
- It promotes new investments.
- It increases the volume of employment.
- It moves the economy towards full employment.
The measures by which cheap money can be secured are as follows:
- A low bank rate.
- Open market operations of the type which increases cash reserves if the banks, Viz., purchase of securities of price-support to government securities.
- Maintaining money supply at high level.
During World War II and thereafter up to 1951, the government of U.K ans India followed the cheap money policy primarily because it enabled them to borrow money from the public at low rates.
The Cheap Money Policy has been criticised on the following grounds:
- It encourages loans of speculative purpose.
- It facilitates the hoarding of stock by dealers with borrowed money.
- It reduces the income of banks and insurance companies who have to hold government securities as part of their assets.
- It increases the volume of credit money.
- It is a dangerous inflationary force.
In most countries now the interest policy varies according to the economic situation. When signs of inflation appear, interest rates are raised. During recessions they are lowered. So a flexible interest policy is followed.
Nature and Functions of Credit:
Credit:
In the financial sense, credit means a belief in payment or repayment. For a trader, credit means the belief that a customer who does not pay for purchase at once will do so later. In practice, credit means not only the belief regarding payment but also the amount involved in it. Thus, credit may be defined as the power to secure present funds, goods or services by giving a amount in future. The essence of a credit transaction consists in the exchange of present goods for the promise of a future equivalent. Credit transactions always involve a deferred payment. They created a legal obligation on the part of buyer or borrower that he will pay or repay the amount in accordance with terms mutually agreed. On the other hand. credit transactions involves a belief or confidence on the part of the seller or lender that the buyer or debtor will repay.
Functions of Credit:
The essential functions of credit is to provide a facility for payment or repayment of an amount on a future date. Credit enables financial transactions to be completed with only a function of the money that would be otherwise required. The credit system operates with the help of different types of credit instruments as substitute for cash payment. Secondary, credit enables the anticipation of future sales. Modern production is organised in anticipation of demand. It involves a time-lag between commencement of operation and the sale of finished products. It also requires considerable investment of capital. Without credit, businessmen would find it difficult to undertake production on modern lines for lack of adequate funds for investment. Extension if credit to the producers helps the channelisation of resources into the hands of those who are best able to use them. Distribution of goods through various stages in the marketing process is also facilitated by credit.
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