Call money rates in the market have risen sharply. Bank R needs to raise short-term funds. Which of the following sources of finance becomes cheaper in comparison for Bank R?
Answer & explanation
Correct answer: option 2
The correct answer is Option (2) → Certificates of deposit
Option (1) Treasury bills — Incorrect. Treasury bills are issued by the RBI on behalf of the Central Government.
Option (2) Certificates of deposit — Correct. Call rates have an inverse relationship with certificates of deposit and commercial paper. When call rates rise, these sources become cheaper in comparison, so Bank R can raise funds through certificates of deposit.
Option (3) Commercial bills — Incorrect. A commercial bill finances the credit sales of business firms. A bank accepts or discounts it.
Option (4) Money market mutual funds — Incorrect. A money market mutual fund collects savings from investors and invests them in money market instruments.
NCERT (Pre-rationalised Edition): “3. Call Money: Call money is short term finance repayable on demand, with a maturity period of one day to fifteen days, used for inter-bank transactions. Commercial banks have to maintain a minimum cash balance known as cash reserve ratio. The Reserve Bank of India changes the cash reserve ratio from time to time which in turn affects the amount of funds available to be given as loans by commercial banks. Call money is a method by which banks borrow from each other to be able to maintain the cash reserve ratio. The interest rate paid on call money loans is known as the call rate. It is a highly volatile rate that varies from day-to-day and sometimes even from hour-to-hour. There is an inverse relationship between call rates and other short-term money market instruments such as certificates of deposit and commercial paper. A rise in call money rates makes other sources of finance such as commercial paper and certificates of deposit cheaper in comparison for banks raise funds from these sources.” |