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  Monetary Policy and Fiscal Policy
Posted by: harpreet_kour - 06-19-2015, 07:56 PM - Forum: CAIIB-- Advanced Bank Management - No Replies

Monetary policy consists of measures aimed at altering the economy's money supply and in turn the interest rates for stabilizing the
aggregate output, employment and price level. In effect, monetary policies are tools to regulate the interest rate and money supply expansion that prevail in the economy. Monetary policy controls supply of money, availability of money and cost of money. In India, RBI is vested with the powers for formulating, supervising and controlling the monetary and banking system.
Objectives of Monetary Policy:
Monitoring of global and domestic economic conditions and respond quickly Ensuring availability of credit to productive sectors of the
economy and protect the credit quality. Maintain price stability and financial stability Emphasis interest rate management, inflation
management and liquidity management. Category of instruments of monetary policy : RBI uses 2 categories of instrument
1. General category, it has powers to conduct open market operations (OMO), change the reserve ratios and alter
the discount rates.
2. Special category it can have various credit direction program (priority sector, export credit, food credit etc.) and specifying
margins and level of credit in special categories (called selective credit control).
Bank rate : Bank rate is the rate of interest which RBI charges from banks while lending to Banks. When Bank rate is increased, it
increases the cost of borrowing by banks from RBI. Thus banks tend to reduce their borrowing from RBI, which lowers the lend-able
resources of banks and consequent decline in money supply increases the interest rates. The opposite happens when RBI reduce bank
rate. Role of Bank rate has been very limited in affecting the lend-able resources with banks.
CRR refers to the ratio of bank's cash reserve balances with RBI with reference to the bank's net demand and time liabilities to ensure the
liquidity and solvency of the scheduled banks.
Extent of CRR
Under RBI Act 1934 (Section 42(1) all scheduled banks are required to keep certain minimum cash reserves with RBI. Important features
are: Wef June 22, 2006 (as per RBI Amendment Act 2006), RBI has been empowered to fix CRR (without any floor or ceiling) at its discretion
(instead of earlier 3 to 2o% range by notification) of the net demand and time liabilities. It is to be maintained at fortnightly average basis
(Saturday to following Friday- 14 days) on reporting Friday (advised by RBI to banks at the commence of the year).on a Bail yhasi8 it should be
70% of the average balance wef Dec 23, 2002.
In order to check inflation, when RBI intends to reduce money supply with the banking system, it increases the CRR. On the other hand in
recessionary situation, when RBI wants to increase the liquidity, it reduces the CRR.
Section 24 (2A) of Banking Regulation Act 1949 requires every banking company to maintain in India equivalent to an amount which shall not
at the close the business on any day be less than as prescribed by RBI (earlier 25%) as a percentage of the total of its net demand and time
liabilities (to be computed as in case of CRR) in India, which is known as SLR.
RBI powers - RBI can change SLR with minimum at its discretion and maximum 4o%).
SLR is to be maintained as at the close of business on every day i.e. on daily basis based on the NDTLs as obtaining on the last Friday of the
2nd preceding Fortnight.
Components of SLR : RBI issued the notification•dated Sept 08, 2009 giving the list of assets to be maintained by the banks (or Sec 24
of Banking Regulation Act, 1949, as under:
(a) Cash, or (b) Gold valued at a price not exceeding the current market price, or © Unencumbered investment in the following instruments
which will be referred to as "Statutory Liquidity Ratio (SLR) securities":
Objective of maintaining SLR :
1 It helps RBI to control the growth of bank credit. By changing SLR, RBI can impact the availability of funds with the banks for lending
purpose. Maintenance of SLR enhances the solvency position of the banks RBi can compel banks to meet the govt. borrowing program by
subscribing to Govt. securities. Open market operationsIt refers to buying and selling of govt. securities by RBI in the open market. By
its impact on the reserves of banks, OMO help control the money supply in the economy.When RBI sells Govt. securities to banks, the lendable
resources of4h&latter aze reduced and banks are forced to reduce or contain their lending, thus curbing themoney supply.When money supply is reduced, thaeonsequeattsiaerease=in,theinterest rates tends to limit spending and investment.

Repo and Reverse Repo
Under a Repo transaction RBI purchases_gqvt. securities from banks and thus inducts liquidity in the banking system. Repo transactions are undertaken at Repo rate, which keeps on changing fromtime to time. By increasing repo rate, RBI increases the cost of borrowing by banks.
Under a Reverse Repo transaction, RBI sells govt. securities to banks and thus absorbs, liquidity in the banking system.
Sterilization Operation (Market Stabilization Scheme).Under this mechanism, RBI uses MSS Bonds, with a view to absorb liquidity
created by inflow of foreign exchange in to India. The MOS-instruments are in the form of treasury bills or dated securities which RBI
isstiet through ailetion. This is also knows as Sterilization operation.
Govt. uses fiscal policy, to influence the level of aggregate demand in the economy, with a view to achieve economic objectives of price
stability, full employment and economic growth. Fiscal policy is the process of policy decision making in relation to the financial structure
of the govt. receipts and payment. It includes the actions and strategies on tax policy, revenue and expenditure, loans and borrowing,
deficit financing etc. Primarily, it is the budgetary policy of the Govt. and is reflected through the annual budget formulation.
The objective of the policy are:
1 Moblisation of resources for meeting the financial requirements for economic growth. 2 Improve savings & investment rate to
improve the capital formation. 3 To initiate steps to remove poverty and unemployment and improve the standard of living of the people. 4
To reduce regional disparities.
With a view to bring the Central finance under discipline, The Fiscal Responsibility & Budget Management Act (FRBM) notified on July 02,
2004 has come into fore w.e.f July 5, 2004 (recommendations of Dr. EAS Sarma Committee). The Act provides for an institutional framework binding the Government to pursue a prudent fiscal policy. It casts responsibility on the Central Government to ensure fiscal  management and long-term macroeconomic stability by achieving sufficient revenue surplus, removing fiscal impediments in the conduct of monetary policy and prudential debt management through limits on borrowings and deficits.
Targets :
The Act provides for the following targets for the Central Govt.:
Reduce the fiscal deficits to 3% of GDP. To eliminate revenue deficit by March 31, 2009 (to be reduced minimum by 0.5% point beginning the financial year 2004-05 (Zero to be achieved by 31.3.2010 as per Budget 2008).To set a ceiling on guarantees - 0.5% of GDP.Total debt increase capped at 9% of GDP during 2004-05.
Report to the Parliament: Government is required to place before the Parliament, 3 statements each year along with the Budget, covering
Medium Term Fiscal Policy, Fiscal Policy Strategy and Macro Economic Framework. The Parliament is also to be informed through quarterly reviews on the implementation. No deviation permitted without approval of Parliament.
Borrowing from RBI : The Act prohibits the Center from borrowing from RBI (i.e. restriction on deficit financing through money creation.
Temporary Ways and Means Advances to tide over cash  flow problems are permitted till April, 2006.

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  Business Cycles
Posted by: rakesh_123 - 06-17-2015, 08:49 PM - Forum: CAIIB-- Advanced Bank Management - No Replies

Business cycle or economic cycle
The business cycle is the periodic but irregular up-and-down movements in economic activity, measured by fluctuations in real
GDP and other macroeconomic variables. In other words, a business cycle or an economic cycle refers to economy-wide
fluctuations in economic activity (including production of goods and services), over several months or years. Such cycle pass
through phases of prosperity and depression. A business cycle is not predictable, regular or repetitive. Its timing is random and
unpredictable. The business cycles influence the business decisions and lead to impact on individual firms and the economy as a
whole. Characteristics of a business cycle: It is synchronic : The upward or downward movement tend to occur almost at the same
time, in all industries. Prosperity or depression in one industry will have impact in other industries, almost immediately. It shows a
wave-like movement : The period of boom and depression comes alternatively. Cyclical fluctuations are recurring in nature:
Various phases are repeated. A boom is followed by depression which is followed by prosperity again.
Downward movements are more sudden, than the upward movements There is no indefinite depression or boom period. Phases
of a business cycle A business cycle has 4 phases namely (i) Boom (2) Recession (3) Depression (4) recovery
1.Boom : Production capacity is fully used. Products fetch more than normal price giving higher profits. This attracts more
investors. Increasing use of factors of production leads to increased cost of production. The fixed income groups find it difficult to
cope with the increase in prices. They are forced to reduce their consumption which leads to lower demand, which results in
2.Recession : In economics, a recession is a business activity contraction, a general slowdown in economic activity over a period
of time. During recessions, many macroeconomic indicators vary in a similar way. Production as measured by Gross Domestic
Product (GDP), employment, investment spending, capacity utilization, household incomes, business profits and inflation all fall
during recessions; while bankruptcies and the unemployment rate rise.
Recessions are generally believed to be caused by a widespread drop in spending.
Govt. policy in recession : Governments usually respond to 'recessions by adopting expansionary macroeconomic policies, such
as increasing money supply, increasing government spending and decreasing taxation.
3.Depression : In economics, a depression is a sustained, long-term downturn in economic activity in one or more economies. It is
a more severe downturn than a recession. A rare and extreme form of recession, a depression is characterized by its length, and
by abnormally large increases in unemployment, falls in the availability of credit— quite often due to some kind of banking/financial
crisis, shrinking output and investment, numerous bankruptcies— including sovereign debt defaults, significantly reduced amounts
of trade and commerce— especially international, as well as highly volatile relative currency value fluctuations— most often due to
devaluations.Common elements of depression : Price deflation, financial crisis and bank failures.
4. Recovery : The depression phase does not continue indefinitely. The retrenched workers offer their services at lower wages.
Prices.are,at,the -lowest level. Hence consumers start purchasing. Banks having surplus funds, startiending at low interest rates.
With increase in demand, the piled up stock get exhaust. The economic activity starts again. Increased incomes lead to increasing
demand, increasing production, investment, employment.

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Posted by: anupma - 06-17-2015, 08:46 PM - Forum: CAIIB-- Advanced Bank Management - No Replies

Supply of money, as assumed by Prof. Keynes, includes both types of money: currency notes and coins as well as bank credit. Since the supply of money depends upon the monetary policy of government and Central Bank, it can be assumed to remain fixed, at least over a
short period. According to this theory, rate of interest is determined at the point at which the demand and supply of money are equal.
D) Modern Theory of Interest (Hicks & Hensen Theory):
Hicks and Hensen theory has bought the synthesis between Keynes and Classical theory of rate of interest. IS curve is derived from
Classical theory, whereas LM curve is derived from Keynes liquidity preference theory of interest. Rate of interest is determined at the
point at which IS curve and LM curve intersect each other.

  •  IS curve = Investment Saving Schedule
  •  LM curve = Liquidity preference and money supply equilibrium.
  •  IS curve is locus of different combination of rate of interest and income which shows equilibrium in goods market and also shows
the saving investments equality.
  •  LM curve shows the different combination of rate of interest and income, which shows equilibrium in money market.
  •  Equilibrium of Liquidity Preferences (L) and supply of money (M) of Keynesian theory produces LM curve, which implies money market equilibrium.
  •  Equilibrium of Investment (I) and savings (S) of classical theory produces IS curve which implies goods market equilibri6m.
  •  IS curve slopes downward to the right— inverse relationship between the level of income and rate of interest.

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Posted by: sarita - 06-17-2015, 08:42 PM - Forum: CAIIB-- Advanced Bank Management - No Replies

As per Marshall, 'Interest is the price for the use of capital in a market'. In other words, interest is that part of national income which is paid to capitalists as a reward of the services of capital. However, in Keynes opinion, interest is a reward for parting with liquidity for a specified period.
Three distinct elements can be distinguished in interest:
a) Reward for the risk involved in making the loan;
b) Payment for the trouble involved;
c) Pure interest, i.e., price of the capital.
GROSS INTEREST = Net interest + reward for risk + reward for inconvenience + reward for pains + reward for management.
NET INTEREST = (Gross Interest)— (Reward for Risk + Reward for inconvenience + Reward for Pains + reward for management).
a) Difference is risk perception.
b) Difference on account of credit rating of borrower.
c) Difference in maturity period of loan.
d) Purpose and end use of the loan.
f) Nature of the primary and collateral security.
g) Quality of third party guarantee.
A) Prof. Senior: Abstinence. heory of Interest: "Interest is the reward for waiting and abstinence".
B) Fishers Time Preference Theory of Interest: Interest is the reward paid to induce people to postpone their present consumption and to
lend their money.
C) Keynes Liquidity Preference Theory of Interest: Prof J.M. Keynes in his book, the General Theory of Employment, Interest and Money, has
viewed rate of interest as a purely monetary phenomenon and is determined by demard for money and supply of money. According to this
theory, rate of interest is determined by liquidity preference, i.e., demand of money on one side and the supply of money on the other.
Demand of money means the demand for keeping money in liquid form. Thus, demand of money means liquidity preference. The term
liquidity preference means the habit cf persons to keep their money in liquid form. When a person gets his income, he has to take two
important decisions:
a) How much to spend and how much to save, and
b) How much to save in liquid form and how much to save in non-liquid form.
The term liquid form means to keep money in the form of ready purchasing power i.e. cash or gold or any such way as can readily be
converted into cash. The term non-liquid form means to invest money in iong term securities and capital goods
Keynes explained interest in terms of purely monetary forces. Keynes assumed a simplified economy where there are two assets which
people can keep in their portfolio balance. These two assets are:
a) Money in the form of currency and current deposits in the banks which earn no interest,
b) According to Keynes, rate of interest and bond prices are inversely rlated. When bond prices go up, rate of interest rises and vice versa.
The demand for money by the people depends upon how they decide to balance their portfolios between money and
bonds. This decision about portfolio bal?nre ran he influenced by two factors.
First, the higher the level of nominal income in a two-asset economy, more the money people would want to hold in their portfolio balance.
This is because of transactions motive according to which at the higher level of nominal income, the purchases by the people of goods and services in their daily life will be relatively larger, which require more money to be kept for transactions purposes.
Second, the higher the nominal rate of interest, the lower the demand for money for speculative motive. This is firstly because a higher
nominal rate of interest implies a higher opportunity cost for holding money. At higher rate of interest, holders of money can earn more
incomes by holding bonds instead of money. Secondly, if the current rate of interest is higher than what is expected in the future, the, people would like to hold more bonds and less money in their portfolio. On the other hand, if the current rate of interest is low (in other words, if the bond prices are currently high), the people will be reluctant to hold larger quantity of bonds (and instead they could hold more money in their portfolio) because of the inherent fear that bond prices would ne fall in the future causing capital losses to them.
Prof. Keynes cites three motives to explain why people prefer to keep their money in liquid form. These motives are as under
1.Transactional Motives: People keep a part of their income in liquid form so that they can pay their regular expenses. Liquidity preference
for transactional motives will depend upon the size of income, time of receipt and number of transactions.
2.Precautionary Motives: People keep some part of income to provide for contingencies, such as illness, accident, unemployment etc.
Liquidity preference for such motives depends upon the level of income, size of family, living conditions and habit of individuals etc.
3.Speculative Motives: Some persons like to keep their money in liquid form for speculative purposes also so that they can get the advantage of changes in the rate of interest.Thus, Demand of money = Transactional motive + Precautionary motive + Speculative motive.
Liquidity preference depends upon the income and rate of interest. There is an inverse relationship between rate of interest and demand for money (liquidity preference). If the rate of interest is high, liquidity preference will be less because the people would like to invest more and more amount. If the rate of interest is low, liquidity preference will be more because the people would like to keep the money with themselves.

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  Money Supply and Inflation
Posted by: suraj - 06-16-2015, 07:38 PM - Forum: CAIIB-- Advanced Bank Management - No Replies

Money : Anything that performs one of the following functions, is money:
Medium of exchange i.e. all goods and services or physical assets are priced in terms of money and exchanged by using money. A measure of value i.e. money is used to measure and record the value of goods and services A store of value of time i.e. money can be held for any time and can be used in future 4. Standard for deferred payments i.e. ukoney is used as an agreed measure of future receipts and payments in different contracts.
Money supply : It refers to stock of money in circulation in the economy at given point of time. This is decided by the Govt. and by the
Central Monetary Authority (RBI in India). Money stock measures were introduced by RBI during 1970 and the working group
under Y B Reddy suggested major changes in the money stock' measures, which gave its recommendations :during Dec
1997), implemented during June 1998. The current measures are monetary (M) and (L) aggregates.
Money Supply refers to amount of money in circulation. The working group under the chairmanship of Dr. V.V. Reddy, the thbn Deputy
Governor RBI, has suggested four new money measures (Mo, M1, Mz, M3) and three liquidity measures (Li, L2. L3). A ) MONETARY

  • Mo = Currency in Circulation + Bankers Deposits with the RBI + 'Other' Deposits with the RBI;
  • M1 = Currency with the Public + Demand Deposits with the Banking System + 'Other' Deposits with the RBI = Currency with the Public + Current Deposits with the Banking system + Demand Liabilities portion of Savings Deposits with the Banking System + 'Other'
Deposits with the RBI;
  • M2 = M1 4- Time Liabilities portion of Savings Deposits with the Banking System + Certificates of Deposit issued by Banks + Term
Deposits (excluding FCNR (B) deposits) with a contractual maturity up to and including one year with the Banking System; and
  • M3 = M2 + Term Deposits (excluding FCNR (B) Deposits) with a contractual maturity of over one year with the Banking System + Call
borrowings from 'Non-Depository' Financial Corporations by the Banking System.
  • M1 is known as Narrow Money ; M3 is known as Broad Money; Demand Deposits are those deposits which are payable on demand. It includes current deposits, demand liabilities portion of liabilities, etc.
  • M3 + all deposits with the Post Office Savings Banks (excluding National Savings Certificates).
  •  L2 = L1 + Term Deposits with Term Lending Institutions and Refinancing Institutions (Fls) + Term Borrowing by Fls + Certificates of Deposit issued by Fls, and
  • L3 = L2 + Public Deposits of Non-Banking Financial Companies
Sources of money supply
Sources of money supply include net bank credit to the govt., net bank credit to commercial sector, net foreign exchange assets of banking sector, Govt. currency liabilities to the"public,_net non monetary liabilities of RBI and the banks.
Inflation refers to regular increase in the general price level of prices of goods and services, in an economy, over a period of time. Inflation
leads to fall in purchasing power,' because with rise in price of goods and services, the same amount of money, can purchase fewer goods and services. Inflation has positive as well as negative impact on the economy. Inflation helps in bringing an economy out of recession. The negative effect is loss in real value of money.
Demand pull inflation: It is a general increase in prices of goods and services due to increasing aggregate demand for goods and services.
The increasing demand is the result of increased quantity of money in the hands of consumers. 
Demand --> Supply--> Shortage of goods & Services--> Increase in Price
Cost-push inflation: It is caused by substantial increase in the prices of inputs used to produce goods and services. In such cases, the
producers adjust the production. Either they increase the price of the goods produced by them or they produce less that leads to shortage
and inflation.
Measures of inflation
The increase in general price level is measured by a price index. The price index is a weighted average of the prices of selected goods and
services, in comparison to the prices prevailing in the base year.
Inflation = (Price index in the current year – price index in the base year) / price index in the base year x 100

Important price indices include the following:
Wholesale price index (WPI) – This reflects change in the level of prices of goods at the wholesale level. It relates to exchange of goods the level of traders/suppliers and not at the level of consumers. WPI is also known as Headline Inflation. In India, WPI is the official inflation Index.
 Food inflation index : Within the overall WPI, this is a separate index for a group of food and-fuel commodities.
Consumer price index : This index reflects the change in price level of goods and services when these are purchased by the
consumers/households. It measures, the prices at retail level. This is more relevant for the consumer. It is also called core inflation. It is
released by Labour Bureau,Ministry of Labour and Employment, Govt. of India.. The CPI can be different for different groups of consumers
which include consumer price index for agricultural labour (CPI-AL), consumer price index for industrial workers (CPI-.IW)„ consumer price
index for urban non-manual employees (CPI-UNME )and consumer price index for rural labour (CPI-RL).
GDP deflator : It is a measure of the level of prices of all new, Domestically produced, final goods and services in an economy. It is not based on fixed basket of goods and services. The basket changes with consumption and investment pattern. Hence, new expenditure patters show up in the deflator as people respond to changing price.

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  Supply and Demand
Posted by: manisha_sbi - 06-16-2015, 07:22 PM - Forum: CAIIB-- Advanced Bank Management - No Replies

The amount of a commodity that the consumers buy, depends on a no. of factors major being the price. Normally, higher the price of a
commodity, lower the quantity that consumers will buy. Hence, there is a relationship between the price of a commodity and quantity
demanded. This relationship can be expressed in the form of a demand schedule or demand curve.
Demand Schedule: It is a statement depicting the quantity demanded of a commodity at different prices. Demand can be drawn
based on demand schedule.
Law of demand (or Law of downward-sloping demand): As per this law, the quantity demanded of a commodity is related to its price
(other things remaining same). At a higher price, the quantity demanded is lower and at lower price, the quantity demanded is higher.
(There is inverse or negative relationship between two).
The quantity demanded may also be affected because of 2 other reasons (I) Substitution Effect, called Cross Demand (2) Income Effect
called income demand.
Cross demand relates to the effect on quantity demanded of a product, dueto~ehangein•price of-a related commodity. (Example : Effect on
demand for petrol, due to change in price of cars).
Income demand relates to the effect on quantity demanded of different-products, due to change in the income of the consumers.

causes of movement of demand curve (or fortes being the demand curve) : The demand curve movement is affected by the following
1. Change in average income of the consumer affects the demand for commodities (increase in income leading to high demand).
2. Size of the market also affects the quantity demanded. (Delhi market for a particular commodity is much larger than the Patna market)
3. Price and availability of related commodities (increase in price of its substitute commodity, increases the demand for a commodity).
4.Taste and preference of certain goods, also affect their demand.
5. Seasonal factors also affect demand (say demand for umbrella in rainy season). Shift in demand
When there is change in demand of commodities due to factors other than the price, it is called shift in demand. These factors can
be change in income of consumers or change in prices of related commodities. This has been shown in the diagram given below.
In this case, there is increase in average income of the consumers, leading to increase in quantity demanded.
Supply Schedule: It shows relationship between the market price of a commodity and the quantity supplied by producers /
suppliers. Higher the price of a commodity, higher the quantity, the suppliers would like to supply. Lower the price, the
producers will tend to supply lower quantity.
Factors behind Supply Curve movement : The following factors affect the movement of a supply curve:
Cost of production to the manufacturer.When cost is low compared to market price, there is high profit and producers tend to
supply more. When cost is high, profit is low and producers will switch over to other products.
Prices of inputs : When input prices are high, it leads to low profit. Hence low production. Technological advancements : Better
technology brings the cost low. Hence more profit and more production. Prices of related commodities : If production of onesubstitute
increases, the production of other will decrease. Govt. policy : Environment and health issues determine the technology to be used. Tax and
wages laws increase the cost of production.
Shift in supply : Whenever there is change in supply of a commodities due to factors other than the price of that commodity, this is
called shift in supply, as reflected below:
Equilibrium of supply and demand
Depending upon their prices, the consumers demand different quantity of goods and sellers offer different quantity of commodities.
But the demand and supply interact to produce an equilibrium price and quantity or market equilibrium. In other words, the
market equilibrium is a situation where the forces of demand and supply are in balance. At that point there is no reason for
change in price, other things remaining same.

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  Fundamentals of Economics, Micro &Macro Economics and Economies
Posted by: devender - 06-15-2015, 07:18 PM - Forum: CAIIB-- Advanced Bank Management - No Replies

Fundamentals of Economics, Micro &Macro Economics and Economies

Economics has been defined by various economists as a science of wealth or study of man in ordinary business of life or study of wealth or of man or of human welfare etc. There are various sets of definitions of economics, as under:
Wealth definition : given by Adam Smith, David Recardo, J.V. Say and J.S. Mil.
Welfare definition : given by A Marshal.
Scarcity definition : given by L. Robbins.
Growth oriented definition : given by Henry Smith and Samuelson.
Definition of A. Smith : Economics is study of wealth.
Definition of A Marshal : Economics is a study of mankind in ordinary business of life.
Definition of L. Robbins : Economics is the science which studies human behaviour as a relationship between ends and scarce means which have alternative uses. It can be concluded that:
Human wants are unlimited. Means to satisfy the wants are limited. All economic activities are undertaken to satisfy human wants.
Resources have alternative uses also. With Rs.loo with you, you can have food or you can see a movie and not both. 4 Consumers have to make choice to make use of limited resources.
Micro and Macro Economics
The micro economics studies the basic or individual units, say a consumer or a household, in .the economy and includes:
Price determination of a commodity (demand theory and supply theory).
1)) Reward determination for factors of production i.e. land, labour, capital and enterprise (Distribution theory covering rent, wages,
interest profit respectively)
Micro economics - It is the study of individual units, small variables and individual pricing. But it is helpful in understanding the working of whole economy and including of private sector. Micro economics studies :
r) how the firms and house holds take decisions to allocate resourceS how their decisions and behaviour affect the supply and demand for
goods/services, which determine price
how price determines the demand and supply.
Macro economics - The macro economics on the other hand, takes into account the entire economy. Accordingly, it deals with
employment theory, income theory, theory of price level,
theory of growth and theory of distribution. As a result, it studies national income, national output, national expenditure, the level of
savings and investment and level of employment.
Central Problems of Economy
There are 3 problems before economic organisation:
1) what to produce and when to produce 2) how to produce (what resources to be used, what technology to use)3)for whom to
produce (who will be consumer of these goods)
Types of economics
Each economic structure takes in to account, 3 basic parameters i.e. (0 what to produce (2) how to produce (3) for whom to produce.
The economies are organized in two different ways of organizing and economy i.e. Govt. managed 11(1 market managed. These economics
1. Market economy or capitalistic economy: In many countries of the world the economic st,.‘11-. follow the market economy
system. In this system, the firms and individual decide about
production and consumption. Firms produced commodities that earn for them the highest amount profit. Consumption is decided by
individual decisions. A market economy, where the govt. does not interfere is'called LAISSEZ-FAIRE economy.
Socialistic or Command Economy: In a command economy, all decisions regarding production and distribution are taken by the govt. The govt. owns most of the factors of production..
Mixed economy: In the present set up none of the above two economic systems actually function. Rather there is a mixed system. The
production and consumption decision are left tomarket but Govt. regulates the overall economic activities by enactment of rules, laws,

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  Case study - 3 : Effect of change of interest rates on net interest income
Posted by: manish - 06-12-2015, 07:39 PM - Forum: CASE STUDIES - No Replies

Effect of change of interest rates on net interest income

International Bank has the following repricing assets and liabilities:
Call money— Rs.300 cr , Cash credit loans — Rs.240 cr , Cash in hand - Rs.200 cr , saving banks - Rs . 300 cr  , fixed deposit - Rs . 300 cr , current deposit Rs . 250 cr 

On the basis of above information , answers following questions 
01. What is the adjusted gap in repricing assets and liabilities?: a)Rs.540 cr b)Rs.600 cr c)Rs.60 cr negative d)Rs.60 cr positive
02. What is the change in net interest income, if interest falls by 2% points across the board i.e. for all assets and liabilities?:a) improves by Rs.1.20 cr b)declines by Rs.1.20 cr c)changes by Rs.1 cr d) there is nochange

03) If the interest rates on assets and liabilities increase by 2%, what is the change in net interest income?:a)improves by Rs.1.20 cr b) declines by Rs.1.20 cr c)changes by Rs.1 cr d) there is no change 
04)If interest rate falls on call money by 1%, on Cash credit by 0.6%, on saving bank by 0.2% and on FD by 1%, what is change in net interest income?:a)improves by Rs.0.72 cr b)declines by Rs.0.82 cr c)decline by Rs.0.84 cr d)declines by Rs.0.96 cr 
05)If interest rate increases on call money by 0.5%, on Cash credit by 1%, on saving bank by 0.1% and on FD by 0.8%, what is change in net interest income?:

a)declines by Rs.1.05 cr
b)improves by Rs.0.90 cr 
c)declines by Rs.1.25 cr
d)improves by Rs.1.20 cr
Explanations: 01
Que-1: (SB + FD)— (Call money +CC) = (300 + 300)— (300 + 240) = Rs.60 cr (assets are less than liabilities — Hence negative gap). The
cash in hand and current account deposits are not subject to re-pricing as these are not interest bearing, hence these have been ignored.
Que-2: There is negative gap (interest bearing liabilities more) of Rs.60 cr [(300 + 300)— (300 + 240)], which means the interest cost declines
@2% on this negative gap, which leads to increase in NIL Hence it is Rs.60 cr x 2% = Rs.1.20 cr.
Que-3: There is negative gap of Rs.60 cr [(300 + 300)— (300 + 240)],3.00 cr) = 3.60 cr
Net fall in interest income = 4.44 cr—3.60 cr = 0.84 cr.
Que-4: Increase in interest amount in case of assets = (Call — 300 x 0.5% = 1.50 cr) + (Cash credit — 240 x 1% =2.40) = Rs. 3.90 cr.
Increase in interest amount in case of liabilities (SB— 300 x 0.1 = 0.30 cr) + (300 x 0.8% = 2.40 cr) = 2.70 cr
Net improvement = 3.90 cr—2.70 cr = 1.20 cr.

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  Case study - 2 : Calculation of Capital Fund (Non-Fund based)
Posted by: manish - 06-12-2015, 07:30 PM - Forum: CASE STUDIES - No Replies

Calculation of Capital Fund (Non-Fund based)

Universal Bank has allowed non-fund based credit facilities to its borrowers, the details of which are as under:
a) letters of credit for imports of goods and buying of domestic goods to various parties within the retail portfolio — Rs.1000 cr (out of this, to AAA rated companies 20% and the balance for BBB rated).
b) standby letters of credit serving as financial guarantees for credit enhancements — Rs.500 cr (Entire amount is to A rated companies)
c) Standby letters of credit related to particular transactions — Rs.200 cr (out of this to AA rated is 50% and balance amount is for unrated companies).
d) Performance bonds and bid bonds on behalf of their customers Rs.1000 cr (out of this 50% is to A rated and the balance for unrated
e) Financial guarantees—Rs.400 cr (on behalf of AA rated companies)
f) Letters of credit of other banks confirmed by Universal Bank for imports — Rs.100 cr

RBI guidelines on credit conversion factor (CCF) are as under:
1. Direct credit substitutes e.g. general guarantees of indebtedness(including standby L/Cs serving as financial guarantees for loans and
securities, credit enhancements, liquidity facilities for securitisation transactions), and acceptances (including endorsements with the
character of acceptance). (i.e., the risk of loss depends on the credit worthiness of the counterparty or the party against whom a potential
claim is acquired) : 100%
2. Certain transaction-related contingent items (e.g. performance bonds, bid bonds, warranties, indemnities, standby LC related to particular transaction) : 50%
3. Short-term self-liquidating trade letters of credit arising from the movement of goods (e.g. documentary credits collateralised by the
underlying shipment) for both issuing bank and confirming bank : 20% The rules relating to risk weight for corporates based on rating provide
as under:AAA rated — 20%, AA-30%, A-50%, BBB-100%, BB & Below-150%, unrated- 100%

Please calculate the total amount of risk weighted assets and the total capital fund requirement.
Solution: To calculate the risk weight and provide for capital, the non-fund based exposure will be first converted into the funded exposure by
applying the credit conversion factor.
Calculation of credit exposure using CCF:
a) Rs.1000 cr x 20% = 200 cr.
b) Rs.500 cr x 100% = 500 cr
c) Rs.200 cr x 50% = 100 cr
d) Rs.1000 cr x 50% = 500 cr
e) Rs.400 cr x 100% = 400 cr t) Rs.100 cr x 20% = 20 cr

Calculation of Risk weight on the above credit exposure:
a) Rs. 200 crOut of this for 20% i.e. Rs.40 cr x 20% = 8 cr (20% is for AAA rated companies where risk weight is 20%)
Out of this for 80% i.e. Rs.160 cr x 100% = 160 cr (for this the risk weight is 100%)
b) Rs.500 cr x 50% = 250 cr (for A rated companies, the risk weight is 50%)
c) Rs.100 crOut of this for 50% i.e. Rs.50 cr x 30% = 15 cr (risk weight is 30% for AA rated companies)
Out of this for 50% i.e. Rs.50 cr x 100 = 50 cr (risk weight is 100% for unrated companies)
d) Rs.500 crOut of this for 50% i.e. Rs.250 cr x 50% = 125 cr (risk weight is 50% for A rated companies)
Out of this for 50% i.e. Rs.250 cr x 100% = 250 cr (risk weight is 100% for unrated companies)
e) Rs.400 cr x 30% = 120 cr (risk weight is 30% for AA ratedcompanies)
f) 20 cr x 20% = 4 cr (risk weight for confirming banks is 20%).
Total amount of risk weight assets from (a) to. (f)
8+ 160 + 250 + 15 + 50 + 125 + 250 + 120 4= 982
Minimum capital fund required for risk weighted assets of Rs.982 cr = 982 x 9% = Rs.88.38 cr

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  Case study - 1 : Calculation of Capital Fund (Fund based)
Posted by: manish - 06-12-2015, 07:26 PM - Forum: CASE STUDIES - No Replies

Calculation of Capital Fund (Fund based)

Popular Bank is a leading bank in public sector and its balance sheet as on 31.03.2008 reveals the following inter-bank call money market
lending and refinance & loans to other banks:

1 Call money lending Rs.1100 cr which comprises: a)Rs.500 cr to a public sector bank having CRAR of 10%, b)Rs.300 cr to a private bank
having CRAR of 14%, c)Rs.200 cr to a scheduled bank having CRAR of 8%, d)Rs.50 cr to a non-scheduled bank with CRAR of 16%,e)Rs.50cr to another non-scheduled bank with CRAR of 5.5%.
2. Loans and refinance to other banks as under: a)Rs.300 cr to a scheduled bank with CRAR of 5.5% b)Rs.200 cr to a non-scheduled bank with CRAR of 15% c)Rs.100 cr to a non-scheduled bank with CRAR of 8.5%.

What will be amount of capital fund required for this purpose and what will be the minimum or maximum amount of Tier I and Tier II
The RBI guidelines on the issue are as under:
RBI guidelines: The claims on banks incorporated in India and foreign bank branches in India, will be risk weighted as under:
(i) All claims on scheduled banks, which comply with the minimum CRAR (9% presently), will be risk weighted at 20%.
(ii) All claims on non scheduled banks which meet the minimum CRAR (9% presently), will be assigned a risk weight of 100%.
(iii) Claims on other scheduled and non scheduled banks will be assigned a risk weight as applicable to the bank's CRAR position as under:

a)CRAR of 6 to < 9 : For scheduled bank - 50% and for non-scheduled bank 150%
b)CRAR of 3 to < 6 : For scheduled bank - 100% and for nonscheduled bank 250%
c)CRAR of 0 to < 3 : For scheduled bank - 150% and for nonscheduled bank 350%

Negative CRAR: For scheduled bank or non-scheduled bank 625% Solution: Risk weight for Call money lending to other banks:
a) 500 cr x 20% = 100 cr b) 300 cr x 20 %= 60 cr c) 200 cr x 50% = 100 cr d) 50 cr x 100% = 50 cr
e) 50 cr x 250% = 125 cr

Total amount of risk weight for call money lending = 435 cr Risk weight for loan and refinance to other banks: a) 300 cr x 100% =
300 cr b) 200 cr x 100% = 200 cr c) 100 cr x 150%= 150 cr

Total amount of risk weight for loans/refinance = 650 cr Total amount risk weight assets = 435 + 650 cr = Rs.1085 cr. Total capital
fund requirement = 1085 x 9% = Rs.97.65 cr Tier I capital should be minimum 50% = Rs.48.825 cr Tier II capital can be maximum
50% = Rs.48.825 cr

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