Given below are two statements:
Assertion (A): When the RBI raises the Cash Reserve Ratio, commercial banks are able to create more credit from the same reserves.
Reason (R): The money multiplier is equal to 1/CRR.
In the light of the above statements, choose the correct answer from the options given below:
Answer & explanation
Correct answer: option 4
The correct answer is Option (4) → (A) is false but (R) is true.
Assertion (A): When the RBI raises the Cash Reserve Ratio, commercial banks are able to create more credit from the same reserves. — False. A higher CRR lowers the money multiplier. Banks must keep more as reserves, so they call back loans and create less credit.
Reason (R): The money multiplier is equal to 1/CRR. — True. For example, a CRR of 20 per cent gives 1/0.2 = 5.
NCERT (2026-27): “3.3.2 Limits to Credit Creation and Money Multiplier … Given a CRR of 20 per cent, the bank cannot give a loan beyond Rs 400. Hence, requirement of reserves acts as a limit to money creation.”
“3.4 Policy Tools to Control Money Supply … It should be evident by now that if the Central bank changes the reserve ratio, this would lead to changes in lending by the banks which, in turn, would impact the deposits and hence, the money supply. … But the banking system would now be able to loan Rs 300 only. It would have to call back some loans to meet the increased reserve requirements. Hence, money supply would fall. …” |
