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Difficulty: MediumThe Money Market: Operations and Financial Instruments

A commercial bank issues a short-term negotiable instrument acknowledging that a customer has deposited a specific sum of money for a fixed period at a specified interest rate, which can be traded in the secondary market prior to maturity. Which of the following financial instruments is described?

  1. A
    Debenture Stock
  2. Certificate of DepositAnswer
  3. C
    Government Development Bond
  4. D
    Cumulative Preference Share

Answer

The correct answer is Certificate of Deposit, which is a negotiable short-term debt instrument issued by commercial banks acknowledging a customer's time deposit.
A Certificate of Deposit (CD) is a short-term negotiable money market instrument issued by commercial banks. It certifies that a specified amount of money has been deposited for a fixed period and interest rate, and it can be traded or discounted in the money market before maturity to provide liquidity.

Step-by-Step Solution

1
Analyze the financial market segment and tenure described in the stem.
The instrument is negotiable, traded prior to maturity, and serves short-term bank deposit purposes, indicating it operates in the money market.
Money market instruments cater to short-term borrowing and lending (typically under one year).
2
Identify the issuer and operational mechanism of the instrument.
It is issued by a commercial bank to acknowledge a customer's fixed time deposit.
A Certificate of Deposit (CD) specifically represents a bank receipt for deposited funds that can be discounted or traded before maturity.
3
Differentiate from capital market instruments.
Debentures, development bonds, and preference shares are long-term capital market instruments.
Debentures and preference shares provide long-term corporate finance, while development bonds finance multi-year public projects.

Key Concept

Money Market Instruments: Certificates of Deposit vs. Capital Market Instruments
Estimated Time:1m 0s
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Topics

The Money Market: Operations and Financial Instruments

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