Page 225 - DECO201_MACRO_ECONOMICS_ENGLISH

Macro Economics

Notes banks. Therefore, variable reserve ratio can be used to affect commercial banks to raise or
reduce their credit creation capacity.
4. Change in Liquidity: According to this method, every bank is required to keep a certain
proportion of its deposits as cash with it. When the central bank wants to contract credit,
it raises its liquidity ratio and vice-versa.

Task Find out the cash-reserve ratio and the bank rate in India. Make a record of these
rates for last 3 years.

13.2.3 Qualitative or Selective Techniques

1. Change in Margin Requirement: Under this method, the central bank change in the margin
requirement to control and release funds. When the central bank feels that prices are
rising on account of stock-piling of some commodities by the traders, then the central
bank controls credit sanctioned by the method of raising margin requirement (Margin
requirement is the difference between the market value of the assets and its maximum
loan value).

Example: Let us suppose, a borrower pledged goods worth 1000 as security with a bank
and get a loan of amounting to 800. This margin requirement is 200 or 20 per cent. If this
margin is raised, the borrower will have to pledge of greater value to secure loan of a given
amount. This would reduce money supply and inflation would be curtailed.
Similarly, in case of depression, central bank reduces margin requirement. This will in
turn raise the credit creating capacity of the commercial banks. Therefore, margin
requirement is significant tool in the hands of central authority during inflation and
depression.

2. Direct Action: This method is adopted when some commercial banks do not cooperate
with the central bank in controlling credit. Thus, central bank takes direct action against
the defaulter. The central bank may take direct action in a number of ways as under:
(i) It may refuse rediscount facilities to those banks that are not following its directions.
(ii) It may follow similar policy with the bank seeking accommodation in excess of its
capital and reserves.
(iii) It may change penal rates over and above the bank rate.
(iv) Any other strict restrictions on the defaulter institution.
3. Rationing of the Credit: Under this method, the central bank fixes a limit for the credit
facilities to be given to the commercial banks. Being the lender or the last resort, central
bank rations the available credit among the applicants. Generally, rationing of credit is
done by the following four ways:
(i) Central bank can refuse loan to any bank.
(ii) Central bank can reduce the amount of loans given to the banks.

(iii) Central bank can fix quota of the credit.
(iv) Central bank can determine the limit of the credit granted to a particular industry or
trade.

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