Class 10 NCERT Economics: Chapter 3 - Money and Credit

Overview

This chapter explores money as a medium of exchange, its modern forms, and the role of banking systems. It also examines credit, its impact on economic activities, and the importance of accessible, affordable credit for development, particularly for the poor.

Money as a Medium of Exchange

Money simplifies transactions by eliminating the need for direct barter, making exchanges efficient.

Barter System and Double Coincidence of Wants

• Barter System: Goods/services are exchanged directly without money, requiring both parties to want what the other offers (double coincidence of wants).
• Example: A shoe manufacturer needing wheat must find a farmer who wants shoes and has wheat.
• Money’s Role: Acts as an intermediary, allowing the manufacturer to sell shoes for money and buy wheat, eliminating the need for mutual wants.

Modern Forms of Money

Modern money includes currency and bank deposits, accepted due to government authorization.

Currency

• Forms: Paper notes and coins, not made of precious metals or useful on their own.
• Acceptance: Authorized by the government; in India, the Reserve Bank of India (RBI) issues currency on behalf of the central government.
• Legal Status: Rupees are legal tender, and no one can refuse payment in rupees for transactions in India.

Deposits with Banks

• Demand Deposits: Money deposited in bank accounts that can be withdrawn on demand, earning interest and considered safe.
• Cheque Payments: A cheque instructs the bank to transfer a specific amount from the payer’s account to the payee’s, facilitating cashless transactions.
• Example: A shoe manufacturer pays a leather supplier via cheque, transferring funds between bank accounts without cash.

Loan Activities of Banks

Banks play a crucial role in mediating between depositors and borrowers, using deposits to extend loans.

• Mechanism: Banks hold about 5% of deposits as cash reserves for withdrawals, using the rest to provide loans.
• Income: Banks charge higher interest on loans than they pay on deposits, with the difference being their main income source.
• Risk: If all depositors demand their money simultaneously, banks may face a liquidity crisis.

Two Different Credit Situations

Credit involves borrowing with a promise of future repayment, with outcomes varying based on risk and support.

Case 1: Salim’s Success

• Context: Salim, a shoe manufacturer, borrows to meet festival season order expenses (raw materials, labor).
• Sources: Leather supplier (deferred payment) and trader (advance cash).
• Outcome: Completes order, earns profit, repays loans, improving his financial position.
• Impact: Credit supports production, increases earnings, and is productive.

Case 2: Swapna’s Debt Trap

• Context: Swapna, a small farmer, borrows for groundnut cultivation, expecting harvest to repay the loan.
• Risk: Crop failure due to pests, despite pesticide use, prevents repayment.
• Outcome: Debt grows, forcing her to sell land; new loans fail to clear old debt, trapping her in a debt cycle.
• Impact: Credit worsens her situation, highlighting the risks of high-stake borrowing without support.

Terms of Credit

Terms of credit define the conditions of a loan, influencing its affordability and accessibility.

• Components:
  • Interest Rate: Cost of borrowing, added to the principal.
  • Collateral: Assets (e.g., land, house) pledged as security, which the lender can sell if the loan is unpaid.
  • Documentation: Proof of ability to repay (e.g., salary records).
  • Repayment Mode: Schedule and method (e.g., monthly installments).
• Example: Megha’s Rs 5 lakh house loan at 12% interest, repaid over 10 years, with house papers as collateral.

Variety of Credit Arrangements

Credit arrangements vary by borrower, lender, and terms, as seen in a village study.

Village Case Study (Sonpur)

• Shyamal (Small Farmer): Relies on informal credit (moneylenders) for cultivation, facing high interest rates.
• Arun (Medium Farmer): Secures bank loan at 8.5% interest for cultivation, with flexible repayment and cold storage loan options.
• Rama (Landless Labourer): Borrows from employer at 5% monthly interest, repaying through labor, trapped in debt (Rs 5,000 owed).

Loans from Cooperatives

Cooperatives provide affordable credit to members, supporting rural development.

• Structure: Members pool savings, using them as collateral to secure bank loans for lending.
• Example: Krishak Cooperative (2,300 members) offers loans for agricultural implements, cultivation, housing, and more.
• Benefits: Lower interest rates, member-driven decisions, and support for diverse needs.

Formal and Informal Sector Credit in India

Credit sources are divided into formal (banks, cooperatives) and informal (moneylenders, friends), with significant disparities in access.

Formal Sector

• Regulation: Supervised by the RBI, ensuring cash reserves, fair lending, and transparency.
• Challenges: Require collateral and documentation, limiting access for the poor.
• Data: Only 46% of urban poor households’ loans are formal, compared to 83% for rich households (Graph 2).

Informal Sector

• Characteristics: Unregulated, high interest rates, no oversight, and sometimes unfair recovery practices.
• Impact: High borrowing costs reduce borrower income, often leading to debt traps (e.g., Rama’s case).

Self-Help Groups (SHGs) for the Poor

SHGs organize the poor, especially women, to save and access affordable credit, fostering financial independence.

• Structure: 15-20 members save regularly (Rs 25-100), lending to members at low interest rates.
• Bank Loans: After 1-2 years of regular savings, SHGs can access bank loans without collateral, creating self-employment opportunities.
• Benefits: Overcomes collateral barriers, provides timely loans, and supports social issues (health, domestic violence).
• Decision-Making: Members decide loan terms and ensure repayment, enhancing accountability.

Case Study: Grameen Bank

Grameen Bank in Bangladesh is a model for providing credit to the poor, particularly women.

• Scale: By 2018, it had 9 million members across 81,600 villages, mostly poor women.
• Impact: Offers reasonable rates, enabling small income-generating activities and proving poor women are reliable borrowers.
• Quote: “Credit can create the biggest development wonder,” says founder Muhammad Yunus (2006 Nobel Peace Prize).

Key Learnings

• Money eliminates barter inefficiencies, with modern forms (currency, deposits) linked to banking systems.
• Banks mediate between depositors and borrowers, but credit outcomes vary—productive for some, debt traps for others.
• Formal credit (banks, cooperatives) is regulated and cheaper but less accessible to the poor, who rely on costly informal sources.
• SHGs and models like Grameen Bank show that affordable credit for the poor drives development and empowerment.

Exercises

1. High-risk credit can lead to debt traps, as seen in Swapna’s case, where crop failure prevented repayment, forcing land sale.
2. Money solves double coincidence by acting as an intermediary, e.g., a tailor sells clothes for money, then buys rice.
3. Banks use depositors’ surplus funds to provide loans to borrowers, earning income from interest rate differences.
4. 10-rupee note: “I promise to pay the bearer,” guaranteeing value by the RBI.
5. Expand formal credit to reduce reliance on costly informal sources, increasing incomes and development.
6. SHGs pool savings for small loans, enabling self-employment and social empowerment without collateral.
7. Banks avoid lending to those without collateral, proper documentation, or stable income.
8. RBI supervises banks’ cash reserves and lending practices to ensure stability and fairness.
9. Credit drives development by funding businesses and agriculture but can harm if risks are high.
10. Manav will choose based on interest rates, collateral needs, and repayment terms; banks offer lower rates but require collateral.
11. Small farmers:
    • (a) Banks avoid lending due to lack of collateral and high risk of crop failure.
    • (b) Moneylenders, traders, employers, cooperatives.
    • (c) High interest rates from moneylenders trap farmers like Swapna in debt.
    • (d) Promote SHGs, cooperatives, and government-backed loan schemes.
12. Blanks: (i) poor, (ii) High, (iii) RBI, (iv) deposits, (v) Collateral.
13. Choices: (i) (b) Members, (ii) (c) Employers.