Importance of Central Bank

The central bank is the apex institution which facilitates the working of commercial banks and regulates the monetary decisions for the economy. The central bank controls money supply and interest rates by using the monetary policies. Central bank is the bank of the commercial banks. It is the lender of the last resort. For a developing country, central bank is a significant body which accelerates the growth of the economy. Here are a few important roles played by the central bank in a developing country:

  • Money Control: Any change in the money supply affects the price level of the economy. If the money supply is increased, there will be an increase in the price level and vice-versa. Hence, central bank has a major role in maintaining the equilibrium between the demand and supply of money. Central bank directly controls the supply of money and can influence the demand for money for various purposes by using appropriate monetary policy.
  • Interest rate: Interest rates are an important determinant of the investment demand in the economy. Central bank by regulating the money supply, can change the interest rates and thus can stimulate investment. For example, if the central bank wants to increase the investment demand it will increase the money supply. An increase in the money supply will reduce the interest rate and borrowings will be cheaper. People will borrow and invest these funds. Therefore investment in the economy has been increased.
  • Balance of payments: The central bank controls the foreign exchange reserves and helps to solve the balance of payments problem faced by the government. When the imports exceeds the exports i.e. expenditure exceeds the income, central bank uses its foreign currency reserves to pay the balance. The central bank also maintains the stability of the domestic currency. It avoids fluctuations in the currency by a process of buying and selling of foreign reserves.
  • Economic growth: Central bank facilitates the working of the commercial banks and encourages new banks to come up. It helps in rural development by extending the commercial bank branches to rural areas. It helps in the establishment of various financial institutions which helps in the country’s growth.

By performing all the above stated roles, central bank aims at the economic development of the country. In situations of economic difficulties it is the central bank which tries to stabilize the economy. Central bank is the apex institution of economic growth in the country.

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