Money as a Medium of Exchange

1. Define double coincidence of wants

In the barter system, when two persons experience a need for each other’s commodity at the same time, it is called double coincidence of wants.

2. How does money act as an intermediate in the exchange process?

Money eliminates the need for double coincidence of wants. For example, a garment maker can sell their garments to a shoemaker for money and then with that money they can buy whatever they want. In the double coincidence of wants system, the garment maker should want shoes and the shoemaker should want garments at the same time for the transaction to take place between them. Money eliminates this need.

3. How does money act as the medium of exchange?

Money acts as the intermediate in the exchange process and thus eliminates the need for double coincidence of wants.

4. Define money.

Money is the medium of exchange used in economic transactions of goods and services.

When goods and services are sold for money, there is no need for the double coincidence of wants. This makes transactions easier and promotes economic activity.

5. How is money used in everyday life? Give examples.

Money plays a crucial role in our day to day life by acting as a medium of exchange. It enables us to buy products or services without having to give another product or service in return.

For example, using money we can buy food and drinks. We use money to pay our school fee or cable subscription. We are paid money for the product or service we provide.  For example, employees receive a monthly salary in money. Thus, money is very much an integral part of our day to day life.

6. How does money solve the problem of double coincidence of wants? Explain with examples.

In the barter system, buying and selling was difficult because it required two people to want each other’s product at the same time. For example, someone may have wheat to sell and another person may have jaggery. For an exchange to take place between them, the person owning wheat should need jaggery and the person owing jaggery should need wheat at the same time. This was not always possible. Money eliminated this need. By giving money anyone could buy anything whenever they wanted and this made the exchange of goods and services easier.

7. What is barter system?

Barter system involves the exchange of one good for another good without the use of money. In this system, two persons should want each other’s commodity at the same time. For example, a shoemaker can sell shoes and buy wheat in exchange. However, this is possible only when the person selling wheat is in need of shoes. Otherwise, he will not sell wheat. This made transactions difficult under the barter system.

Modern forms of money

1. What does currency include?

Currency includes coins and paper notes.

2. How do banks make money from the deposits with them?

Banks lend money to customers and charge an interest on the loan. They offer an interest on the money people deposited with them. However, the rate of interest on the loans they give is always higher than the rate of interests on the deposits they receive. This difference between what is charged from borrowers and what is paid to depositors is their source of income.

3. How does demand deposits benefit people?

People’s deposits are safe with banks and they also get to earn interest on the money they deposited. Better still, they can withdraw the money whenever their want. This is how demand deposits benefit people.

4. What is the main function of Reserve Bank of India?

The Reserve Bank of India issues currency notes on behalf of the central government of India and supervises the functioning of recognized banks in the country.

5. What is a bank?

A bank is a profit making financial institution that accepts deposits from people and pays interest on the deposits and offers loans to the needy.

6. What are the modern forms of money?

Modern forms of money are currency notes and coins.

7. Who issues currency notes in India?

Reserve Bank of India

8. Modern currency has no use of its own but it is used as a medium of exchange. Why?

Modern currency is authorized by the government of the country and hence it is used as a medium of exchange.

In India, currency is issued by the Reserve Bank of India. Indian law legalizes the use of Rupee as the medium of exchange within the country. No person in India can legally refuse a payment made in rupees.

9. Deposits with the banks are beneficial to the depositors as well as to the nation. Explain.

People’s money is safe with the bank. When people deposit their money with the bank, the bank pays an interest on the deposited money. The earned interest enables people to increase their savings.

People can withdraw the money deposited and the accrued interest at any time.

Banks offer the cheque facility to their account holders. Cheques drawn against demand deposits allow people to settle payments without making use of cash.

Banks use a major portion of the money deposited with them to extend loans to people and organisations. Using this money individuals and organisations can engage in economic activities that generate jobs and income.

10. What are the different forms of money?

Different forms of money are paper notes, coins and deposits with banks.

11. What is a demand deposit? List two advantages of demand deposits.

A demand deposit is a deposit made with the bank with the provision to withdraw money as and when the depositor wants. Since these deposits can be withdrawn on demand, they are called demand deposits.

Advantages

Demand deposits earn interest.

They act as a medium of exchange. Depositors can use the cheque facility to settle payments instead of paying cash.

12. Forms of currency have undergone several changes since early times. Explain.

In the olden days things like grains and cattle were used as a medium of exchange.

Afterwards, metallic coins made of gold, silver and copper became more acceptable forms of currency. Actually, these coins were in use until the last century.

Modern forms of currency include paper notes and coins. Unlike metallic coins, paper notes or coins are not made of expensive materials. Also, modern forms of currency have no use of their own.

13. What is a cheque? What is the advantage of using a cheque for payment?

A cheque is a piece of paper which instructs the bank to pay a specific amount from the account of the person who signed the cheque to the person in whose name the cheque is drawn. In order to write a cheque, a person should have money in their bank account.

Cheques are drawn against demand deposits. The main advantage of making cheque payments is that the bank will also have a record of the transaction. Also, when we pay by cheque, we do not need to exchange any cash.

Loan activities of banks

One mark questions

1. Why do banks maintain cash reserve?

Banks maintain cash reserves so that they can pay the depositors who come to withdraw their money on any given day.

2. Why do banks keep a small proportion of the deposits as cash with themselves?

Banks keep cash reserves to pay the depositors who come to withdraw their money.

3. What is the main source of income for the commercial banks?

Banks charge interests on the loans they give and the deposits they take. The interest charged on the loans is always higher than the interest given on the deposits. This difference between the interest charged and the interest given is the main source of income for commercial banks.

4. What do banks do with a major proportion of their deposits?

Banks use a major proportion of their deposits for giving loans.

5. What percentage of deposits is kept as a cash reserve by the banks for daily transaction in India?

About 15%

6. What are specified in the loan agreement?

The interest rate, mode of repayment, collateral and necessary documentations are specified in the loan agreement.

7. Mention six sources of credit in rural India?

• Moneylenders – by some estimates 33% of the credit requirements of rural households are fulfilled by them.
• Co-operative societies – co-operative societies satisfied 25% of the credit needs of rural families in 2012.
• Commercial banks – they fulfil about 25% of credit needs of rural families.
• Friends and relatives – about 8% of the credit needs in rural India are satisfied by them.
• Other institutional agencies – about 5% of credit needs of rural families are fulfilled by them.
• Landlords – landlords provide about 1% of the total credit needs in Indian villages.

Two different credit situations

1. What is agricultural credit?

Agricultural credit means money, goods or other services that farmers receive from lenders in return for the promise of future payment.

2. Why do farmers require credit?

Farmers need credit to buy seeds, fertilizers, pesticides and pump sets.

3. What is credit/loan?

Credit or loan refers to an agreement in which the lender gives the borrower money, goods or services in return for the promise of repayment in future.

4. What is a debt trap?

A debt trap is a situation in which the borrower is unable to pay off the money borrowed.

5. Credit can push borrowers into a situation from which recovery is very painful. Explain with examples.

Farmers borrow money at the beginning of the sowing season and then pay off the loan after the crops are harvested. If the harvest is good, they will not have much difficulty repaying the loan. However, if the harvest fails, the farmer will not be in a position to pay the borrowed money back and this throws them into the debt trap.

For example, in the textbook we studied the story of Swapna. When her crop failed, she had to sell off a part of her land to repay the loan. This is an example of credit pushing borrowers into debt traps from which recovery is painful.

6. Explain possible reasons why people apply for loans in rural areas?

(a) Farming involves many expenses. Rural farmers apply for loan so that they can buy seeds, fertilizers, pesticides and pump sets. They borrow money hoping that they will be able to pay off the debt when the crops are harvested.

(b) When crop fails, poor farmers will apply for fresh loans for growing another crop and repaying the previous loans. Getting one loan after another will push the farmer into deep debt.

(c) Landless agricultural labourers often take loans to meet the expenses of day to day living.

(d) A sudden illness in the family or a function like marriage also pushes people to borrow.

7. Explain with examples how credit plays a vital and positive role in the life of a borrower.

Cheap and affordable credit benefits people in many ways. In the case of farmers, it enables them to grow crops and earn livelihood. If interest rate on the loan is not high, the farmer will not have much difficulty in paying it off.

Credit also allows people to start their own small businesses and improve their financial status. In other words, if credit is available at cheap interest rates and on reasonable terms, it improves the standard of living of people by allowing them to engage in economic activities that boost their earnings.

Terms of Credit

1. Mention the terms of credit.

Interest rate, collateral, mode of repayment and necessary documentation are the terms of credit.

2. Define the term collateral.

Collateral is an asset that the borrower owns and is pledged to the lender as a guarantee until the loan is repaid. Collateral could be land, vehicles, livestock, buildings or bank deposits.

3. Why is it difficult for poor people to obtain a loan?

Getting a loan is difficult for poor people as they do not have any collateral and often fail to fulfil documentation requirements.

4. Difference between the terms of credit in formal and informal sectors.

Formal sectors

• RBI supervises the activities of lenders in the formal letter.
• Obtaining a loan in the formal sector is not easy because of the documentation requirements.
• Collateral is required to obtain credit
• Rate of interest is comparatively low.

Informal sector

• There is no one to supervise the lending activities of lenders in the informal sector.
• Collateral is not required.
• Rate of interest is considerably high.

Informal sources of credit are more convenient for poor borrowers because collateral is not required. Also, a borrower can obtain a fresh loan even if they hadn’t paid off previous loans.

5. Compare the different terms of credit for small landless agricultural workers and medium farmers.

Small landless agricultural workers

The interest rate can be as high as 60% per annum.

The labourer pays off the loan by working for the land owner.

No collateral or documentation is required for obtaining this loan.

Medium farmers

The interest rate is 8.5% per annum.

No collateral or documentation is required.

Loans can be repaid at any time within the next three years.

6. Why do lenders ask for collateral while lending?

Collateral is an asset that the borrower owns. While obtaining credit, it is pledged to the lender as guarantee.

If the borrower fails to repay the loan, the lender can sell the collateral to recover the dues.

Banks are profit making organizations. When the banks demand collateral while giving loans, they can reduce their risk of non-performing assets.

7. Mention some items used as collateral.

• Bank deposits
• Land titles
• Vehicle
• Building
• Livestock
• Shares, LIC policy, debenture

8. What do terms of credit include?

• Terms of credit include the following:
• The interest rate on the amount of money borrowed.
• Collaterals such as land titles, building, bank deposits etc.
• Required documentation
• Mode of repayment: The borrower may repay the loan in monthly, quarterly, half-yearly or yearly instalment. The mode of repayment can vary depending upon the nature of the borrower or lender.

9. Why are moneylenders the main source of credit in rural areas?

Moneylenders are the main source of credit in rural areas because they offer loans without collateral and documentation. Very few rural people own assets that they can pledge as collateral. Also, poor and uneducated people in villages are unable to complete complicated paperwork. Since obtaining a loan from a formal lender like banks require collateral and proper documentation, many rural people find it difficult to get credit from them. Hence, they approach moneylenders in rural areas.

Formal sector credit in India

1. There is a great need to expand formal sources of credit in rural India. Explain.

While obtaining credit from informal sources is easy for rural people, local moneylenders charge hefty interest on the money lent. This pushes people into deep debt. They may also become victims of the unfair means employed by these people to recover their money. Hence, it is important to expand formal sources of credit in rural India. Creditors in the formal sector offer loans at cheap rates. Also, the terms are reasonable.

2. Why is there a great demand for credit or loans?

Loans play a huge role in a country’s development by boosting economic activity.

Loans satisfy the working capital needs of production.

Credit enables farmers to sow crops and business people to start their own ventures.

In our day to day life, we engage in a large number of transactions that involve credit. For example, a sudden illness or a function in the family often force people who do not have sufficient savings to borrow money.

3. How do banks help in the economic development of a country?

Banks take deposits from people who have surplus money and give loans to people who need money. They offer interest on deposits and charge interest on loans.

Having access to credit is crucial for people to start their own businesses or to take care of their day to day expenses.

As much as 25% of the rural credit in India is offered by banks. Thus, they boost economic activities in the country.

Cheap and affordable credit is crucial for the development of any country and banks provide them. This way, banks help poor people to improve their standard of living and businesses to flourish.

4. What is a commercial bank?

A commercial bank is a profit making organization that accepts deposits from people, offers interests on those deposits and extends loan to the needy.

5. In what ways does the Reserve Bank of India supervise the functioning of banks?

In India, all formal sources of credit are supervised by the Reserve Bank of India (RBI)

RBI makes sure that banks maintain 15% of their deposits in cash to repay depositors who come to withdraw money at any time.

RBI makes sure that banks extend credit not only to profit making businesses but also to small scale industries, small farmers and small borrowers.

Banks have to periodically inform RBI about how much money they are lending to whom and at what interest rate.

Self help groups for the poor

1. What is a newer source of credit for rural people, especially women?

Self help groups

2. Why are banks and co-operative societies more reasonable sources of credit?

They offer credit at cheap interest rates and on reasonable terms.

3. How do self help groups (SHGs) benefit rural women?

A Self Help Group is a collective of rural poor, especially women, who pool in their savings.

The SHG encourages women to save money and also help them to get small loans from the group itself to meet their financial needs. This way, it addresses their financial needs and thus also save them from many social issues.

Such collectives not only help women to become financially reliant but also regular meetings of these groups provide them a platform to discuss various problems affecting them and the society in general.

By providing loans to members at affordable rates, SHGs enable women to find working capital for their self-employment initiatives. For example, with this loan, women can buy sewing machines or cattle.

In order to obtain a loan from an SHG, a person does not need collateral or documentation.

4. Self Help Groups can solve the problem of credit in rural areas. Explain

Self Help Groups offer loans to needy members without collateral and documentation. Also, they charge only a small interest on the loans they give. Thus, they enable rural people to have access to credit.

SHGs encourage rural women to save money regularly.

They not only enable women to be financially reliant but also provide them a platform to discuss their financial and family issues like domestic violence.

5. What are Self Help Groups? How do they work? Explain.

A Self Help Group (SHG) is a collective of rural poor especially women formed with the objective of meeting their credit needs. A typical SHG may have 15 to 20 people who regularly meet and save money.

Depending upon the financial situation of the member, they can deposit any amount of money they are capable of saving.

When one of the member needs money, they can take a loan from the group without collateral or documentation.

The interest charged on these loans is less than what moneylenders typically charge and hence SHG loans protect rural people from the debt trap to a great extent.

If the group saves regularly, it is eligible for a loan from a bank. These loans are sanctioned in the name of the group and they are meant to create self employment opportunities for the group members.

6. Why are credit arrangements not fair for all sections of society.

Credit arrangements are not fair for all sections of the society because of the vast disparity in income levels of people. Obtaining credit is harder for poor people as their ability to repay the loan is not good. Hence, lenders in the formal sector hesitate to give loans to poor people. By contrast, rich people who have collateral to pledge and are capable of completing documentation can easily obtain a loan from a bank.

Because of the difficulty in obtaining a loan from a bank, rural poor people turn to moneylenders who charge a hefty interest rate on the loan. This further pushes the rural poor to greater financial difficulties.

Many villages still do not have access to banks. This is another factor that affects the credit availability for rural people.

Class X Economics Solutions

• Class X Economics Chapter 1 Development | Free NCERT Solutions
• Class X Economics Chapter 2 | Sectors of the Indian Economy | Expected Questions | Part 1
• Class X Economics Chapter 2 | Sectors of the Indian Economy | Expected Questions | Comparing the three sectors
• Class X Economics Chapter 2 | Primary, Secondary And Tertiary Sectors
• Class X Economics Chapter 2 | Division of Sectors As Organized And Unorganized
• Class X Economics Chapter 2 | Sectors In Terms Of Ownership
• Class X Economics Chapter 3 | Money and Credit | Important Questions
• Class X Economics Chapter 4 | Globalization and the Indian economy | Important questions
• Class X Economics Chapter 5 | Consumer Rights | Important Questions