1.
Money as a Medium of Exchange
In earlier times, people used the barter system — direct exchange of goods (e.g., wheat for
shoes).
Problem with barter: Requires double coincidence of wants — both parties must want what the
other has.
Money solves this by acting as an intermediate in transactions.
Money is anything that is generally accepted as a medium of exchange.
A person holding money can easily exchange it for any commodity or service they want.
Money eliminates the need for double coincidence of wants.
2. Modern Forms of Money
Modern forms of money are not made of precious metals like gold/silver (unlike earlier
commodity money).
They include currency — paper notes and coins (issued by the government and authorized by
Reserve Bank of India - RBI).
No individual can legally refuse currency (legal tender).
Other major form: Bank deposits — money kept in banks (especially demand deposits).
Demand deposits in banks are withdrawable on demand using cheque.
Cheque — a paper instructing the bank to pay a specific amount from the person's account to
the person in whose name the cheque is drawn.
Modern currency is accepted because it is authorized by the government (not due to intrinsic
value).
Deposits with banks are closely linked to the banking system.
3. Loan Activities of Banks
Banks accept deposits from the public and pay interest on them.
Banks use a major portion of these deposits to give loans to people.
Banks keep only a small portion (fraction) for withdrawals and lend the rest (this is how they
mediate between depositors and borrowers).
Banks charge higher interest on loans than what they pay on deposits — this difference is their
main source of income.
Banks create credit (or expand money in the economy) through this lending process.
4. Two Different Credit Situations
Credit — the activity of borrowing and lending money between two parties.
Credit plays a vital and positive role when it helps increase earnings and supports growth (e.g.,
a farmer borrows to buy seeds/fertilizers good harvest repays loan + profit).
Credit can be debt trap when things go wrong (e.g., crop fails cannot repay borrower in
worse situation, forced to take fresh loans at higher interest).
5. Terms of Credit
Every loan agreement specifies certain terms and conditions — collectively called terms of
credit.
Key components of
terms of credit
:
Interest rate — the cost of borrowing (charged on the loan amount).
Collateral — an asset owned by the borrower (e.g., land, building, vehicle, livestock, bank
deposits) used as a guarantee to the lender until loan is repaid.
Documentation required — papers needed for loan approval.
Mode of repayment — how and when the loan will be repaid (installments, lump sum, etc.).
If borrower fails to repay, lender can sell the collateral to recover the money.
6. Formal and Informal Credit in India
Formal sector
credit: Loans from
banks
and
cooperatives
(supervised by
RBI
).
Lower interest rates, transparent process, no exploitation.
Requires proper documentation and often collateral.
Informal sector
credit: Loans from
moneylenders
,
traders
,
relatives
,
friends
, etc.
Higher interest rates, no supervision, often exploitative.
Less paperwork, easier to get but risky.
Poor households depend heavily on informal sources because they lack collateral or
documentation for formal loans.
Self Help Groups (SHGs)
— emerging way for poor (especially rural women) to access formal credit.
Groups of 15–20 members save small amounts regularly.
Pooled savings used to give small loans to members.
Later, SHGs get loans from banks at reasonable rates (helps reduce dependence on
moneylenders).
7. Key Statistics & Real-Life Examples from NCERT (Important
for Exams)
About 48% of rural poor households depend on informal sources for credit.
Only about 25–30% get credit from formal sources.
SHGs with bank linkage have helped lakhs of poor women in rural areas.
Examples: Swapna (silk producer) — formal credit helps growth; farmers in distress due to
high informal interest rates.
Important Keywords (Must Memorize)
Medium of exchange
Barter system
Double coincidence of wants
Currency / Paper notes & coins
Demand deposits
Cheque
Credit
Collateral
Terms of credit
Interest rate
Formal sector (Banks & Cooperatives)
Informal sector (Moneylenders etc.)
Reserve Bank of India (RBI)
Self Help Groups (SHGs)
Debt trap