ECONOMICS (CBSE/UGC NET)

Detailed explanation-1: -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-2: -Credit creation is inversely related to the legal reserve ratio. X Total credit creation (or money creation) = Initial deposits × 1/Legal Reserve Ratio Higher the legal reserve ratio, lesser will be the credit creation by the commercial banking system and vice-versa.

Detailed explanation-3: -Answer: Yes, there exists an inverse relation between Reserve Ratio and Credit Creation in the economy. From the above calculation, we can conclude that higher the reserve Ratio, lesser credit will be created by Commercial Banks in the economy.

Detailed explanation-4: -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.

Detailed explanation-5: -The money multiplier has an inverse relationship with the Legal Reserve Ratio (LRR). LRR refers to the number of deposits that the banks are required to keep with them as reserves all the time, to meet the uncertainties, and also to maintain the trust of the public.