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CA Foundation · Business Economics · Money Market

A commercial bank finds that its cash position is short for one day because of heavy withdrawals, while another bank has surplus cash. Which statement correctly explains how the money market helps in this situation and why it is considered to be an important function?

The bank can borrow overnight in the call money market from a bank with surplus cash. This lets banks meet temporary shortfalls and reserve needs without liquidating long-term assets, which is a core liquidity-balancing function of the money market. Equity issues belong to the capital market.

  1. AThe bank must sell its fixed assets, because the money market has no facility for short-term borrowing
  2. BThe bank can borrow overnight from the surplus bank in the call money market, which lets banks manage reserve requirements without disturbing their long-term assetsCorrect
  3. CThe bank can issue equity shares in the money market to meet the shortfall
  4. DThe bank must wait for the government to change the cash reserve ratio

Explanation

Banks with short-term shortfalls borrow overnight in the call money market from banks with surpluses, thereby meeting their reserve and cash needs without selling long-term assets. Equity is raised in the capital market, and selling fixed assets or waiting for a CRR change is neither necessary nor a money market function.

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