BANKING AFFAIRS

Detailed explanation-1: -1CRR×Total deposits is the total amount of credit banks can create.

Detailed explanation-2: -Cash reserves with the RBI determine the amount of credit banks can create.

Detailed explanation-3: -The Legal Reserve Ratio (LRR), which has to be maintained by the commercial banks, is 20%. All the payments and deposits are done through the bank. The banks keep only the minimum balance of LRR and lend the rest of the money to the public.

Detailed explanation-4: -In contrast, a higher CRR or LRR will reduce the money multiplier effect and decrease the credit creation capability of commercial banks. For example, banks cannot create credit when the legal or cash reserve ratio is 100%.

Detailed explanation-5: -Banks use the deposits held with them for giving loans. However, they cannot use the whole deposits for lending. It is legally compulsory for the banks to maintain a certain minimum fraction of their deposits as reserves. This fraction is called Legal Reserve Ration (LRR), which is fixed by the central bank.