11. The supply of money.

Your personal supply of money changes often. Increases and decreases in your supply of money probably affect how much you spend. Similarly, the amount of money in the total economy changes often. Changes in the economy’s money supply are more complex than changes in a personal money supply. Still, these fluctuations of the money supply influence not only how much spending occurs but also the general level of business activity. The money supply of the United States is constantly changing. Sometimes it expands and sometimes it contracts. The government prints new bills and mints new coins every year to replace those that are worn. It also changes the money supply to meet people’s needs. The supply of checking account money, or demand deposits, also changes. Banking laws in the United States require a bank to put a certain percentage of its deposits in reserve. A bank’s reserve is the money the bank must be 10 percent of total deposits. Of John Winslow’s $10000, the bank keeps $1000 in reserve. The other $9000 it lends to anyone able to pay it back with enough interest. So the process continues, with a succession of borrowers and depositors. None of these transactions involved currency. All were completed through checking accounts. This series of deposits caused the total supply of checking account money to expand.

This expansion of the money supply does not continue forever. A deposit in a checking account can increase the money supply by about 5 times the original amount. Several factors stop the process of expansion or even reverse it.

First, federal law requires the bank to keep a percentage of its demand deposits in reserve, usually 10 to 20 percent. Banks cannot loan out all of the money people deposit. After John Winslow’s original deposit, each successive deposit was less.

Second, expansion will stop if the bank stops making loans. Lending may cease if the bank cannot find any more people it believes will be able to repay a loan. Also, if people stop putting their money into checking accounts, the bank will not be able to make loans.

Finally, if many people suddenly withdraw their money all at once, the bank must do more than stop making loans. It will have to start calling for payment of its loans so that it can increase its reserves.

12. The role of central banks and commercial banks.

It is obvious that when it comes to dealing with money, the banks are the main institutions which can provide a great variety of services essential to trade and to the entire economy of any nation. There are two main types of banks:central and commercial banks.

Central banks control the banking of the whole country and work together with the government to supervise the country’s economy. The central bank of the United Kingdom is the Bank of England, in the United States of America it is the Federal Reserve System, in single-currency Europe it is the European Central Bank, in the Russian Federation it is the Central Bank of Russia, etc.

Some of their functions are identical to the functions of regular, commercial banks. Other functions are unique to the central bank. On certain functions it has an absolute legal monopoly.

The main functions of the central banks are the following:

• to issue banknotes and coins (the country’s or nation’s currency)

They are legal tender in the country where they are produced. They must be accepted as payment by all the traders all over the country.

• to make sure that the national currency keeps its value

• to keep inflation under control. Inflation occurs when demand for goods exceeds supply.

The main function of a modern central bank is the monitoring and regulation of interest rates in the economy. The central bank does this by changing the interest rates that it charges on money that it lends to the banking system through its "discount windows". Interest rates is supposed to influence the level of economic activity in the economy. Central banks take deposits from other banks and, in certain cases, from foreign governments which deposit their foreign exchange and gold reserves for safekeeping (for instance, with the Federal Reserve Bank of the USA). The Central bank also holds onto the gold reserves of the country.

Commercial banks are the public or private banking institutions which people use for their everyday money matters. The main functions of commercial banks are accepting deposits from the public and advancing them loans.However, besides these functions there are many other functions which these banks perform. All these functions can be divided under the following heads:

1. Accepting Deposits:

The most important function of commercial banks is to accept deposits from the public. Various sections of society, according to their needs and economic condition, deposit their savings with the banks.

Generally, there are three types of deposits which are as follows:

*Current Deposits:These deposits are called as Demand Deposits be­cause these can be demanded or withdrawn by the depositors at any time they want.Such deposit ac­counts are highly useful for traders and big business firms because they have to make payments and accept payments many times in a day.

*Fixed or Time Deposits:These are the deposits which are deposited for a definite period of time. This period is generally not less than one year and, therefore, these are called as long term deposits.These deposits generally carry a higher rate of interest because banks can use these deposits for a definite time without having the fear of being withdrawn.

*Saving Deposits:In such deposits, money upto a certain limit can be deposited and with­drawn once or twice in a week. On such deposits, the rate of interest is very less. As is evident from the name of such deposits their main objective is to mobilise small savings in the form of deposits. These deposits are generally done by salaried people and the people who have fixed and less income.

2. Giving Loans:

The second important function of commercial banks is to advance loans to its customers. Banks charge interest from the borrowers and this is the main source of their income.Banks generally give following types of loans and advances:

+Cash Credit:

In this type of credit scheme, banks advance loans to its customers on the basis of bonds, inventories and other approved securities.

+Demand loans:

These are such loans that can be recalled on demand by the banks. The entire loan amount is paid in lump sum by crediting it to the loan account of the borrower, and thus entire loan becomes chargeable to interest with immediate effect.

+Short-term loan:

These loans may be given as personal loans, loans to finance working capital or as priority sector advances.

3. Over-Draft:

Banks advance loans to its customer’s upto a certain amount through over-drafts, if there are no deposits in the current account. For this banks demand a security from the customers and charge very high rate of interest.

4. Discounting of Bills of Exchange:

This is the most prevalent and important method of advancing loans to the traders for short-term purposes. Under this system, banks advance loans to the traders and business firms by discounting their bills. In this way, businessmen get loans on the basis of their bills of exchange before the time of their maturity.

5. Agency Functions:

Banks function in the form of agents and representatives of their customers. Customers give their consent for performing such functions. The important functions of these types are:

• Banks collect cheques, drafts, bills of exchange and dividends of the shares for their custom­ers.

• Banks make payment for their clients and at times accept the bills of exchange: of their cus­tomers for which payment is made at the fixed time.

• Banks pay insurance premium of their customers. Besides this, they also deposit loan installments, income-tax, interest etc. as per directions.

• Banks purchase and sell securities, shares and debentures on behalf of their customers.

• Banks arrange to send money from one place to another for the convenience of their custom­ers.