NCERT Questions & Answers + Important Extra Questions
NCERT Textbook Questions
In situations with double coincidence of wants, people would need to exchange things. How does money solve this problem?
Answer
Double coincidence of wants means that both parties in a trade must want what the other has. In a barter system, a shoe-maker who wants wheat must find a wheat farmer who also needs shoes — this is extremely difficult and time-consuming.
Money solves this problem by acting as a medium of exchange. Instead of finding someone with a matching want, the shoe-maker can sell shoes to anyone for money, and then use that money to buy wheat from any farmer. Money eliminates the need for double coincidence because:
(i) Everyone accepts money — it is a universally accepted medium of exchange (authorised by the government/RBI).
(ii) Money stores value — the shoe-maker can sell shoes today and buy wheat next week. Barter cannot store value easily (shoes may deteriorate).
(iii) Money measures value — it provides a common unit of account (prices in rupees) to compare the value of different goods.
How do banks mediate between those who have surplus funds and those who need funds?
Answer
Banks act as financial intermediaries:
(i) Accepting deposits: People with surplus money (savings) deposit it in banks in savings accounts, fixed deposits, or recurring deposits. Banks pay them interest on these deposits (e.g., 4-7% per annum).
(ii) Lending loans: Banks use the deposited money to give loans to people and businesses who need funds — for farming, business, buying a house, education, etc. Banks charge a higher interest rate on loans (e.g., 8-15%) than what they pay on deposits.
(iii) Profit: The difference between the interest charged on loans and the interest paid on deposits is the bank's income. For example, if a bank pays 5% on deposits and charges 10% on loans, the 5% difference covers the bank's costs and profit.
(iv) Reserve: Banks do not lend out all their deposits. They keep a certain percentage as reserve (Cash Reserve Ratio, mandated by RBI — currently about 4.5%) to meet daily withdrawal demands. The rest is available for lending.
This system benefits everyone: depositors earn interest on idle money, borrowers get funds they need, and the economy grows as money circulates productively.
Look at a sample loan activity of a bank: (a) How much does the bank keep as reserve? (b) How much does the bank lend? (c) How the bank earns profit?
Answer
(Using typical NCERT example where bank receives Rs 100 in deposits):
(a) The bank keeps 15% (Rs 15) as reserve to pay depositors who may come to withdraw. This is kept in cash at the bank or deposited with the RBI.
(b) The bank lends 85% (Rs 85) as loans to borrowers — farmers, small businesses, individuals for homes, cars, or education.
(c) The bank earns profit from the difference in interest rates: it pays depositors, say, 5% interest (Rs 5 per year on Rs 100 deposit), and charges borrowers, say, 10% interest (Rs 8.50 per year on Rs 85 loan). Net income: Rs 8.50 - Rs 5 = Rs 3.50 profit (minus operating costs).
What are the differences between formal and informal sources of credit?
Answer
Formal sources of credit
(i) Include: Banks (commercial, cooperative, regional rural banks), microfinance institutions, and government agencies (NABARD, MUDRA).
(ii) Regulated by RBI: Must follow rules on interest rates, lending practices, and reserves.
(iii) Lower interest rates: Typically 8-15% per annum.
(iv) Transparent terms: Loan terms are written, documented, and legally enforceable.
(v) Collateral required: Banks usually need collateral (property, gold) for large loans.
Informal sources of credit
(i) Include: Moneylenders, traders, employers, relatives, friends, chit funds.
(ii) Not regulated: No one monitors their lending practices.
(iii) Very high interest rates: Can be 36-60% or even higher per annum.
(iv) Exploitative terms: May involve verbal agreements, bonded labour, or seizure of land.
(v) No collateral for small loans: But may demand land or gold for larger amounts.
About 85% of rural loans still come from informal sources, which is why the poor get trapped in debt cycles. Expanding formal credit to the poor is a key development challenge.
Why do we need to expand formal sources of credit in India?
Answer
Expanding formal credit is necessary because:
(i) Protecting the poor from exploitation: Informal lenders (moneylenders) charge exorbitant interest rates (36-120% per annum), pushing borrowers into debt traps. Many farmers have committed suicide due to informal debt burden.
(ii) Lower cost of credit: Banks charge 8-15% interest compared to 36%+ from moneylenders. Cheaper credit means borrowers can invest more and repay easily.
(iii) Regulation and fairness: Formal lenders are regulated by RBI — they cannot exploit borrowers, charge illegal interest, or use coercive recovery methods.
(iv) Economic growth: When farmers and small businesses get affordable credit, they can invest in better technology, seeds, and equipment — increasing productivity and income.
(v) Financial inclusion: Formal credit comes with other benefits — bank accounts, insurance, government subsidies (Direct Benefit Transfer), financial literacy.
Government initiatives: Jan Dhan Yojana (bank accounts for all), MUDRA loans (for small businesses), SHGs (Self-Help Groups linking women to banks), and Kisan Credit Cards have expanded formal credit access significantly.
Important Extra Questions
What are Self-Help Groups (SHGs)? How do they help the poor?
Answer
Self-Help Groups (SHGs) are small groups of 15-20 poor people (usually women) from the same neighbourhood who pool their savings and give small loans to members.
How they work
(i) Members save a small amount regularly (e.g., Rs 25-100 per week) into a common fund.
(ii) Members can borrow from the group fund for emergencies, business, or personal needs at reasonable interest rates decided by the group.
(iii) After operating for 6-12 months, the SHG can open a bank account and become eligible for bank loans. The bank lends to the SHG (not individual members), and the SHG distributes the loan among its members.
How they help the poor
(i) Access to credit without collateral: Banks lend to SHGs based on group reputation, not individual collateral. This is crucial for the landless poor.
(ii) Freedom from moneylenders: SHG loans at 12-24% replace moneylender loans at 36-120%.
(iii) Women's empowerment: SHGs give women financial independence, decision-making power, and confidence. Women discuss social issues (health, education, domestic violence) in group meetings.
(iv) Discipline of saving: Regular saving builds financial security for the poorest families.
Grameen Bank model: Inspired by Muhammad Yunus's Grameen Bank (Bangladesh, Nobel Prize 2006), India's SHG-Bank Linkage programme is the largest microfinance programme in the world.
What is collateral? Why is it important for banks?
Answer
Collateral is an asset that a borrower pledges to the lender as security against a loan. If the borrower fails to repay, the lender can sell the collateral to recover the loan amount. Common forms: land, building, vehicle, gold, fixed deposits, insurance policies.
Why it is important for banks
(i) Risk reduction: Lending involves risk — the borrower may not repay. Collateral gives the bank a safety net — even if the borrower defaults, the bank can recover its money.
(ii) Loan amount determination: The value of collateral determines how much a bank will lend. A property worth Rs 50 lakh might secure a loan of Rs 35-40 lakh.
(iii) Borrower accountability: When borrowers pledge their assets, they have a strong incentive to repay — they don't want to lose their property.
Problem: The collateral requirement excludes the poor — landless labourers, slum dwellers, and street vendors have no property to pledge. This is why they depend on informal lenders. SHGs and microfinance address this gap by providing collateral-free credit based on group guarantee.