Fundamentals of Money and Banking (1414)
Q.1. How many types of banks exist in Pakistan? Give a very brief resume of each type?
In
Pakistan, there are several types of banks catering to different financial
needs and functions. Here is a brief summary of each type:
1. Commercial Banks:
Commercial banks are the most common type of banks in Pakistan. They provide a
wide range of banking services to individuals, businesses, and organizations.
These services include deposit accounts, loans, credit cards, foreign exchange,
and investment options. Commercial banks play a crucial role in facilitating
economic activities and financial transactions.
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2. Islamic Banks:
Islamic banks operate in compliance with Islamic principles and are governed by
Shariah law. They offer products and services that are free from interest
(riba) and adhere to ethical guidelines. Islamic banks provide profit-sharing
arrangements, Islamic savings accounts, Islamic financing options such as
Murabaha (cost-plus financing) and Ijarah (leasing), among others.
3. Development Banks:
Development banks in Pakistan are primarily focused on providing financial
support for industrial and developmental projects. They aim to stimulate
economic growth, promote entrepreneurship, and address specific sectors or
regions that require development. Development banks offer long-term loans,
equity financing, and technical assistance to help businesses and industries
flourish.
4. Microfinance Banks:
Microfinance banks specialize in providing financial services to low-income
individuals, micro-entrepreneurs, and small businesses. They offer small loans,
savings accounts, and micro-insurance products to promote financial inclusion
and alleviate poverty. Microfinance banks often target marginalized communities
and individuals who have limited access to traditional banking services.
5. Agricultural Development Banks:
Agricultural development banks focus on the agricultural sector by providing
loans, credit, and technical support to farmers, agricultural businesses, and
rural communities. These banks play a vital role in supporting agricultural
activities, enhancing productivity, and boosting rural development.
6. Investment Banks:
Investment banks primarily deal with investment-related activities, such as
underwriting securities, facilitating mergers and acquisitions, and providing
advisory services for corporate clients. They assist companies in raising
capital through issuing stocks and bonds, and they also engage in trading and
brokerage activities in the financial markets.
7. Foreign Banks:
Foreign banks in Pakistan are branches or subsidiaries of international banks
operating in the country. They offer a range of banking services, including
corporate banking, trade finance, foreign exchange, and retail banking. Foreign
banks contribute to the economy by facilitating international transactions and
attracting foreign investment.
8. Postal Savings Banks:
Pakistan Post operates postal savings banks to provide accessible banking
services to people across the country. These banks offer savings accounts,
remittance services, and small loans, primarily targeting individuals in remote
areas or those who prefer utilizing postal services for their banking needs.
It's
important to note that this is a general overview, and there may be additional
specialized types of banks or variations within each category in Pakistan.
Q.2. Define
devaluation and inflation. What are main effects of inflation in Pakistan?
Devaluation:
Devaluation
refers to a deliberate downward adjustment in the value of a country's currency
relative to other currencies in the foreign exchange market. It is typically
carried out by a country's central bank or monetary authority. Devaluation can
occur due to various reasons, such as an attempt to boost exports, reduce trade
imbalances, or address economic challenges. When a currency is devalued, its
exchange rate decreases, meaning that it takes more units of the domestic
currency to buy a unit of foreign currency.
Inflation:
Inflation
is the sustained increase in the general level of prices for goods and services
in an economy over a period of time. It erodes the purchasing power of money,
as each unit of currency buys fewer goods and services. Inflation can occur due
to factors such as increased demand, rising production costs, or excessive
money supply. It is typically measured using an inflation rate, which indicates
the percentage change in prices over a specific period.
Main Effects of Inflation in Pakistan:
Inflation can have several effects on an
economy, including the following effects observed in Pakistan:
1. Reduced Purchasing Power:
Inflation erodes the value of money, reducing people's purchasing power. This
means that individuals and households need to spend more money to buy the same
amount of goods and services, leading to a decrease in their standard of
living.
2. Impact on Fixed-Income Groups:
Inflation disproportionately affects fixed-income groups, such as low-income
earners and retirees, as their incomes may not increase at the same rate as
prices. This can result in a decline in their real incomes and financial
hardship.
3. Uncertainty and Reduced Investment: High
inflation rates can create uncertainty in the economy, making it challenging
for businesses and investors to plan for the future. This uncertainty can
discourage investment and economic growth, as businesses may delay expansion or
investment decisions due to the unstable economic conditions.
4. Redistribution of Wealth: Inflation
can lead to a redistribution of wealth within the economy. Those with assets
that appreciate in value during inflation, such as real estate or stocks, may
benefit. However, individuals with fixed incomes, savings, or cash holdings may
experience a decrease in their real wealth.
5. Increased Cost of Borrowing:
Inflation can lead to higher interest rates, making borrowing more expensive.
This can impact businesses and individuals who rely on loans for investments or
consumption, potentially limiting economic growth and dampening consumer
spending.
6. Impact on International Trade: Inflation
can affect a country's competitiveness in international trade. If the inflation
rate in Pakistan is significantly higher than that of its trading partners, it
can result in a decrease in exports and an increase in imports, leading to
trade imbalances.
To
manage inflation and mitigate its negative effects, the government and central
bank of Pakistan implement various monetary and fiscal policies, including
adjusting interest rates, controlling money supply, and implementing price
stabilization measures.
Q.3. Define
money and also explain the Friedman’s Modern Quantity Theory of Money.
Money:
Money
is a widely accepted medium of exchange that serves as a unit of account, a
store of value, and a medium for deferred payment. It is a system of tokens or
notes that represent value and enable transactions within an economy. Money can
take different forms, including physical currency (coins and banknotes) and
digital representations (electronic or virtual money).
Friedman's Modern Quantity Theory of
Money:
The
Modern Quantity Theory of Money, also known as the Monetarist Theory, was
developed by economist Milton Friedman. It is an extension of the classical
quantity theory of money, which posits a direct relationship between the money
supply and the price level in an economy. Friedman's theory emphasizes the
importance of changes in the money supply as a primary driver of inflation and
economic fluctuations.
Key elements of Friedman's theory include:
1. Quantity Theory Equation:
Friedman's theory is based on the equation of exchange, which states that MV =
PT, where M represents the money supply, V represents the velocity of money
(the rate at which money circulates), P represents the price level, and T
represents the volume of transactions in the economy. According to Friedman,
changes in M directly influence changes in P.
2. Long-Run Relationship:
Friedman argued that in the long run, changes in the money supply primarily
affect the price level rather than output or employment. He believed that
changes in the money supply have a proportional effect on prices, indicating a
stable long-run relationship between money and inflation.
3. Neutral Money: Friedman
asserted that money is neutral in the long run, meaning that changes in the
money supply do not impact real variables such as output or employment. In the
long run, changes in the money supply only affect nominal variables like
prices.
4. Monetary Policy: Friedman
advocated for a stable and predictable growth rate of the money supply to avoid
erratic fluctuations in the economy. He recommended that central banks adopt a
rule-based approach to monetary policy, with a focus on controlling the growth
rate of the money supply to promote price stability.
5. Critique of Fiscal Policy:
Friedman was critical of the use of discretionary fiscal policy to manage the
economy. He argued that monetary policy, through controlling the money supply,
is a more effective tool to stabilize the economy and control inflation.
Friedman's
Modern Quantity Theory of Money has influenced the field of economics and
monetary policy discussions, emphasizing the role of the money supply in
determining inflation and the importance of stable monetary growth for economic
stability. However, it has also faced criticism and alternative theories have
been developed to explain the complex relationship between money, prices, and
the broader economy.
Q.4. Discuss
in brief the main advantageous of a letter of credit to the:
i. Commercial bank
ii. The importer
iii. The exporter
The
main advantages of a letter of credit (LC) vary for different parties involved
in the transaction. Let's discuss the advantages for each party:
i. Commercial Bank:
a. Risk Mitigation: The
letter of credit provides a guarantee of payment to the exporter by the issuing
bank. This mitigates the risk for the bank as it ensures that the exporter will
receive payment as long as they comply with the terms and conditions of the LC.
b. Commission and Fees: Banks
earn commissions and fees for providing letter of credit services. This adds to
their revenue stream and enhances their profitability.
c. Trade Facilitation: By
offering letter of credit services, banks facilitate international trade
transactions, which strengthens their relationship with customers and enhances
their reputation as reliable financial institutions.
ii. The Importer:
a. Payment Security: The
LC provides a secure method of payment for the importer. It ensures that the
payment will only be made to the exporter once the required documents are
presented and the terms of the LC are fulfilled. This reduces the risk of
non-payment or fraud.
b. Improved Negotiating Power: An LC
gives the importer more negotiating power as they can specify the terms and
conditions that must be met by the exporter before payment is made. This allows
the importer to ensure that goods or services meet their requirements before
releasing payment.
c. Flexibility in Payment:
Depending on the terms agreed upon, an LC can offer flexibility in payment
options. For example, an LC may allow for deferred payment or installment
payments, which can help the importer manage cash flow.
iii. The Exporter:
a. Payment Assurance: The
letter of credit provides the exporter with a guarantee of payment from the
issuing bank as long as the required documents are presented correctly. This
minimizes the risk of non-payment or payment delays.
b. Reduced Credit Risk: The
exporter's credit risk is shifted from the importer to the issuing bank. The
exporter can have confidence in receiving payment as long as they comply with
the terms and conditions of the LC, regardless of the financial position of the
importer.
c. Access to Financing: The
exporter can use the LC as collateral to obtain financing from their bank.
Banks are more willing to provide loans or advances against a confirmed letter
of credit, giving the exporter access to working capital for production and
fulfilling the order.
d. International Trade Expansion:
Accepting LCs allows the exporter to participate in international trade with
buyers who may have a preference or requirement for using this payment method.
It helps the exporter expand their market reach and establish new business
relationships.
Overall,
a letter of credit provides advantages such as payment security, risk
mitigation, negotiation power, and financial facilitation for commercial banks,
importers, and exporters, making it a widely used and trusted instrument in
international trade.
Q.5. What
do you mean by the term “System of Money” ? What are the essential features
that a monetary system should have before it can be looked upon as
satisfactory? The
term "System of Money" refers to the complete framework and
infrastructure that governs the creation, circulation, and regulation of money
within an economy. It encompasses various elements, including currency, banking
systems, central banks, monetary policies, and financial institutions, all
working together to facilitate the functioning of the economy.
Essential Features of a Satisfactory
Monetary System:
For a
monetary system to be considered satisfactory, it should possess certain key
features. These features ensure the stability, efficiency, and effectiveness of
the system. Here are the essential features:
1. Stability: A
satisfactory monetary system should aim to maintain price stability and avoid excessive
inflation or deflation. Stability helps businesses and individuals make
reliable financial decisions, fosters confidence in the currency, and supports
sustainable economic growth.
2. Trust and Confidence: The
monetary system should inspire trust and confidence among the public and
economic participants. This requires a transparent and well-regulated system
that safeguards against fraud, counterfeiting, and other illicit activities.
3. Liquidity: The
monetary system should ensure the availability of an adequate supply of money
to facilitate smooth transactions and meet the needs of the economy. It should
strike a balance between preventing excessive money creation that can lead to
inflation and ensuring sufficient liquidity to support economic activity.
4. Convertibility: A
satisfactory monetary system allows for the convertibility of the currency,
enabling it to be exchanged for other currencies or assets as needed.
Convertibility promotes international trade and investment, facilitating
economic integration and financial flows.
5. Monetary Policy Framework: The
monetary system should have a well-defined and credible monetary policy
framework. This includes a central bank responsible for formulating and
implementing monetary policies to achieve macroeconomic objectives such as
price stability, full employment, and sustainable growth.
6. Regulatory Framework: A
satisfactory monetary system requires an effective regulatory framework to
oversee financial institutions, including banks, to ensure their soundness and
stability. This includes prudential regulations, capital requirements, and risk
management standards to protect depositors and maintain the integrity of the
financial system.
7. Payment System Efficiency: The
monetary system should have an efficient payment infrastructure that enables
fast, secure, and cost-effective transfer of funds. This includes electronic
payment systems, clearinghouses, and settlement mechanisms that facilitate
smooth transactions between individuals, businesses, and financial
institutions.
8. Financial Inclusion: A
satisfactory monetary system should strive for financial inclusion, ensuring
that individuals and businesses have access to basic banking services, such as
savings accounts, payment systems, and credit facilities. Financial inclusion
promotes economic empowerment and reduces disparities within society.
9. Flexibility and Adaptability: The
monetary system should be flexible and adaptable to changing economic
conditions, technological advancements, and evolving financial needs. It should
be able to respond to economic shocks and effectively address emerging
challenges.
By
incorporating these essential features, a monetary system can provide a stable
and efficient foundation for economic activity, supporting growth, investment,
and overall economic well-being.
Dear Student,
Ye sample assignment h. Ye bilkul
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0313-6483019
0334-6483019
0343-6244948
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