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Monetary policy: Effect of lowering the Cash Reserve Ratio (CRR). Full question: If the RBI lowers the CRR, what happens to the banking system's ability to create credit? Choose the correct option.

Difficulty: Easy

Correct Answer: Credit creation rises as the money multiplier increases

Explanation:


Given data

  • Policy change: CRR reduced by the RBI.


Concept / Approach
Required reserve ratio rr ↓ ⇒ excess reserves ↑ ⇒ banks can extend more loans ⇒ deposit creation expands. Money multiplier m ≈ 1/rr (simplified, ignoring leakages); when rr falls, m rises.


Step-by-step illustration
Example: If rr = 4% ⇒ m ≈ 1/0.04 = 25; if rr is cut to 3% ⇒ m ≈ 1/0.03 ≈ 33.3 ⇒ higher potential for deposit/credit creation.


Final Answer
Credit creation rises as the money multiplier increases.

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