Theory question 107
Financial Institutions(a) Define Central Bank.
(b) Outline three ways in which the Central Bank of a country can reduce money supply.
(c) Explain how the Central Bank plays its role as: (i) banker to the government; (ii) banker to commercial banks; (iii) lender of last resort.
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(a) A central bank is the apex bank of a country, owned by government, that issues currency, controls money supply and credit, and acts as banker to government and to commercial banks.
(b) Any three: selling securities in the open market; raising the bank rate/monetary policy rate; raising the cash reserve ratio; raising the liquidity ratio; calling for special deposits; credit ceilings; moral suasion.
(c)(i) Banker to government: keeps government accounts, receives revenue and makes payments, lends to government, manages the national debt and advises on financial matters.
(ii) Banker to commercial banks: holds their reserves, provides clearing facilities and supervises them.
(iii) Lender of last resort: lends to commercial banks in temporary difficulty when they cannot get funds elsewhere, preventing bank failures.
Each tool reduces banks' ability to lend.