Suppose for a hypothetical economy, reserve ratio changes from 10% to 20% and the value of primary deposits are Rs. 2,000 crore. Calculate the change in the amount of credit creation when reserve ratio changes from 10% to 20%.

Question

Accepted Answer

Calculation of change in credit creation:

Given:
Reserve Ratio changes from 10% to 20%
Primary Deposits = Rs. 2,000 crore

Before change (RR = 10%):
Money Multiplier = 1/0.10 = 10
Total Credit Created = 2,000 × 10 = Rs. 20,000 crore

After change (RR = 20%):
Money Multiplier = 1/0.20 = 5
Total Credit Created = 2,000 × 5 = Rs. 10,000 crore

Change in Credit Creation = 20,000 - 10,000 = Rs. 10,000 crore

The credit creation capacity reduces by Rs. 10,000 crore when reserve ratio doubles from 10% to 20%.