CBSE Notes | Class 10 | Social Science | Economics Chapter 3 - Money and Credit
The chapter introduces students to concept of money as a means of transaction, store of value and how trade used to happen with barter system before currency was introduced. We also learn about how banking system works and essentials of debt structuring for Indian economy.
What is Money?
Money is a medium of exchange. Anyone having money can use it to exchange for goods and services they may need or want.
What is barter system?
When money in its present form wasn’t there people used to exchange goods and services with each other. This system is called the barter system. The buyer and seller have to agree to exchange the goods both of them have. This creates a problem of double coincidence of wants.
What a person desires to sell is exactly what the other wishes to buy. In a barter system where goods are directly exchanged without the use of money, double coincidence of wants is an essential feature.
Why is money called a medium of exchange?
Money eliminates the double coincidence of wants by providing a uniform medium of exchange that is acceptable by everyone. It acts as an intermediate in the process of exchange and hence is called a medium of exchange.
Types and Forms of Money
Earlier cattle and grain was used as a medium of money. As humans discovered metals and found better means of extracting and processing metals, we started using them as Money. Up until 100 years back, metals coins such as silver coins, gold coins, copper coins were used as a medium.
Lately we have seen emergence of cashless economy dominated by digital transactions through credit cards, debit cards, bank transfers etc where no tangible asset is exchanged.
With the loss of trust in government system, we are even seeing adoption of cryptocurrencies such as Bitcoin, Ripple, Ethereum etc.
What is a Currency?
Currency - Modern currency is not made up of precious metals. It does not have any use of its own unlike cattle and grains.
It is accepted by everyone because it is authorized by the government. It cannot be refused as a medium of payment as per the law. Such currency is called as legal tender or fiat money.
In India RBI issue the currency notes and the coins are issued by the Government of India. You can see the sign of the RBI governor on all currency notes except for Re. 1 note which is signed by the Finance Secretary.
All coins on the other hand are minted by the Government of India
Why do people deposit money with banks?
We do not need money all the time and we cannot carry out
with us at all times. After meeting our requirements we save the extra money. This money can be saved by us in our homes or in a bank.
A bank provides interest on the savings and as well as security to the deposits from burglary, theft etc.
What are demand deposits?
When people require money, the can go to the bank and demand their money back. Such money which can be demanded back by the people anytime are called as demand deposits.
Money can also be withdrawn from the back issuing a cheque or demand drafts.
What is a Cheque?
A cheque is a paper instructing the bank to pay a specific amount from the person’s account to the person in whose name the cheque has been issued.
It helps in settling the transaction without use of cash.
What are Time Deposits?
There is some money that people save in schemes, such as provident fund, insurances, recurring deposits and the money cannot be withdrawn before specified time. These are called Time Deposits.
We should know that the Interest on Time Deposits > Interest on Demand Deposits.
How do Banks Earn Money?
Banks loan out the money people have deposited with them at an interest. They keep small amount of deposits with them so that they can meet the demand of withdrawal and the rest of the money is lent out (Credit) at higher rates of interest than they give to depositors. The difference between these interest rates help banks earn money.
Interest on Loans(Credits) - Interest on Time/Demand Deposits = Banks Profit
What is Credit?
When money/goods/services are loaned under an agreement by the lender to the borrower in return of promise of future repayment is called credit.
The agreement normally has terms of credit which list out how much money is being loaned, for what time, what will be the interest and provision incase of non-repayment.
What are terms of credit?
Interest rate, collateral and documentation requirement, and the mode of repayment together comprise what is called the terms of credit. The terms of credit can vary depending on nature of lender or borrower.
Credit can play and positive and negative role depending on its usage and terms of credit.
Positive Role of Credit
When an entrepreneur or businessman borrows money on credit, he/she may use it for meeting the capital requirements for buying new machinery, raw materials or goods which can help in increasing his production.
He can use the money from his profits to repay the loan. In this case, credit plays a positive and vital role in development.
Negative Role of Credit
When a farmer borrows money for seeds, irrigation and harvest and is not able to get the necessary output from farming, he/she fails to repay the loan and might have to sell their land for repayment of loan.
In this case, rather than helping the farmer, credit played a negative role and pushed him/her further in situation from where recovery is difficult.
What is Collateral?
Collateral is an asset that the borrower owns (such as land, building, vehicle, livestocks, deposits with banks) and uses this as a guarantee to a lender until the loan is repaid. If the borrower fails to repay the loan, the lender can sell the asset to obtain the credit payment.
Formal Sector of Credit
Loans are availed from Banks and Cooperatives
Credit activity is monitored by RBI
No unfair means of repayment of loan
Interest Rate is Lower - thereby making borrowing cheaper
As a result borrowers have more income left after repayment of interest
Borrowers can easily pay off debt
Informal Sector of Credit
Loans are availed moneylenders, relatives, traders, friends etc
Credit activity is not monitored by RBI or any other agency
Unfair means of repayment of loan may be employed such as loan sharks
Interest Rate is high- thereby making borrowing expensive
As a result borrowers have less or no income left after repayment of interest
Borrowers can get into a debt trap
It is therefore necessary that banks and cooperatives increase their lending particularly in the rural areas, so that the dependence on informal sources of credit reduces.
Due to benefits of the formal sector we need more of banks and cooperatives. They provide cheap credit which is crucial for country’s development.
What are Self Help Groups?
Self Help Groups (SHGs) are recent phenomena and is made up of small number of people; like 15 – 20 members.
The members pool their savings. The collection is then utilized to lend small amounts of money which may be required by any of the members.
The group charges interest on the loan.
The arrangement of loans through Self Help Groups is also known as micro-finance because the small amount of loan is involved.
SHGs have helped immensely in reducing the influence of informal lenders in rural areas. Many big corporate houses are also promoting SHGs at many places in India.
Case of Grameen Bank, Bangladesh
It was the Grameen Bank of Bangladesh which began experimenting with micro- finance. The founder of Grameen Bank, Mohammad Yunus was conferred with Nobel Prize in 2006 for his efforts at improving the lot of the poor.