CUET UG Economics Booster Test 2 - Credit Creation and Money Multiplier -

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CUET UG Economics Booster Test 2 - Credit Creation and Money Multiplier

⏱️ 30 Minutes

❓ 20 Questions

📌 Answers are locked once submitted — results and explanations appear at the end.

CUET UG Economics Booster Test 2 - Credit Creation and Money Multiplier

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QUESTION 1 OF 20

Match the terms related to lending:

List I	List II
1. Spread	a. Lower rate paid by banks
2. Interest on deposits	b. Higher rate charged by banks
3. Interest on loans	c. Appropriated from the spread
4. Bank's profit	d. Difference between lending and deposit rates

Answer Review

1 Match the terms related to lending:

List I	List II
1. Spread	a. Lower rate paid by banks
2. Interest on deposits	b. Higher rate charged by banks
3. Interest on loans	c. Appropriated from the spread
4. Bank's profit	d. Difference between lending and deposit rates

A 1-a, 2-b, 3-c, 4-d

B 1-d, 2-a, 3-b, 4-c

C 1-c, 2-a, 3-d, 4-b

D 1-b, 2-c, 3-a, 4-d

💡 Short Explanation

�� Banks pay a lower interest rate on deposits. �� Banks charge a higher interest rate on loans. �� The difference (spread) is the major source of bank profit.

✅ Correct Answer Explanation

Commercial banks earn profits by charging borrowers a higher rate of interest than the rate paid to depositors. The correct matching is: Spread → Difference between lending and deposit rates (d) Interest on deposits → Lower rate paid by banks (a) Interest on loans → Higher rate charged by banks (b) Bank's profit → Appropriated from the spread (c) Only Option B correctly matches all four concepts.

❓ Why Other Options Are Incorrect

�� Option A → 1-a, 2-b, 3-c, 4-d
Incorrect because spread is not the lower rate paid on deposits, and the remaining matches are also incorrect.
�� Option C → 1-c, 2-a, 3-d, 4-b
Incorrect because spread and profit are interchanged, and interest on loans is incorrectly matched.
�� Option D → 1-b, 2-c, 3-a, 4-d
Incorrect because spread is not the loan interest rate, and profit is not the difference itself.

🎯 Strategy

Used

Option Grouping

Application:

Match each banking term with its standard NCERT definition before comparing the complete combinations.

Final Logic:

Only Option B correctly pairs every lending concept.

🧠 Memory Trick

"Low Deposit, High Loan, Difference = Profit."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Interest Spread and Banking Profit

2 Assertion (A): When a bank gives a loan, the total money supply in the economy increases.
Reason (R): A new deposit is opened in the borrower's name, adding to old deposits.

A Both false

B A true, R false

C Both true, R explains A

D A false, R true

💡 Short Explanation

�� Banks create deposits while granting loans. �� New deposits increase the money supply. �� The Reason directly explains the Assertion.

✅ Correct Answer Explanation

The Assertion is true because commercial banks create money by extending loans. Instead of giving only physical cash, banks usually credit the borrower's account with a new deposit. The Reason is also true because this newly created deposit adds to the existing stock of deposits in the banking system, thereby increasing the money supply. Since the Reason correctly explains why the money supply increases, Option C is correct.

❓ Why Other Options Are Incorrect

�� Option A → Both false
Incorrect because both statements are true.
�� Option B → A true, R false
Incorrect because the Reason is also true.
�� Option D → A false, R true
Incorrect because the Assertion is true.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Check whether the Reason directly explains the Assertion instead of merely being true.

Final Logic:

Loan creation leads to deposit creation, which increases money supply.

🧠 Memory Trick

"Loan Today = Deposit Today."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Credit Creation by Commercial Banks

3 Analyze the statements regarding the balance sheet:
I. The assets of the firm are recorded on the right-hand side of the balance sheet.
II. Assets include things a firm owns or what it can claim from others.

A Only I is correct

B Only II is correct

C Both I and II are correct

D Neither I nor II is correct

💡 Short Explanation

�� Assets represent resources owned by the firm. �� Assets are generally shown on the left-hand side of a balance sheet. �� Hence, only Statement II is correct.

✅ Correct Answer Explanation

Statement I is incorrect because, in the conventional balance sheet format used in NCERT, assets are shown on the left-hand side, while liabilities and net worth appear on the right-hand side. Statement II is correct because assets include everything the firm owns or has a legal claim over, such as loans, reserves, cash, and buildings. Therefore, Option B is correct.

❓ Why Other Options Are Incorrect

�� Option A → Only I is correct
Incorrect because Statement I is false.
�� Option C → Both I and II are correct
Incorrect because Statement I is incorrect.
�� Option D → Neither I nor II is correct
Incorrect because Statement II correctly defines assets.

🎯 Strategy

Used

Elimination

Application:

Evaluate each statement independently and eliminate options containing incorrect combinations.

Final Logic:

Only Statement II matches the NCERT definition of assets.

🧠 Memory Trick

"Assets Left, Liabilities Right."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Balance Sheet of Commercial Banks

4 Order the conceptual steps for creating a basic bank balance sheet:
1. Record the initial deposit from the public as a liability.
2. Record the same cash amount as a reserve on the asset side.
3. Deduct liabilities from assets.
4. Determine the Net Worth.

A 4, 3, 2, 1

B 1, 2, 3, 4

C 2, 1, 4, 3

D 1, 3, 2, 4

💡 Short Explanation

�� Customer deposits create liabilities. �� The received cash becomes an asset. �� Net worth is calculated after recording assets and liabilities.

✅ Correct Answer Explanation

The correct sequence for preparing a basic bank balance sheet is: 1. Record the public deposit as a liability because the bank owes it to the depositor. 2. Record the corresponding cash reserve as an asset. 3. Compute Net Worth using the accounting relationship. 4. Determine the final Net Worth. Therefore, Option B correctly represents the logical sequence.

❓ Why Other Options Are Incorrect

�� Option A → 4, 3, 2, 1
Incorrect because Net Worth cannot be determined before recording assets and liabilities.
�� Option C → 2, 1, 4, 3
Incorrect because the liability should be recorded before computing Net Worth.
�� Option D → 1, 3, 2, 4
Incorrect because Net Worth cannot be calculated before recording assets.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Arrange the accounting events according to the logical preparation of a balance sheet.

Final Logic:

Assets and liabilities must be recorded before calculating Net Worth.

🧠 Memory Trick

"Liability → Asset → Net Worth."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Commercial Bank Balance Sheet

5 Because banks earn interest from loans they make, any bank would naturally like to lend the ________ possible amount, provided they can still repay depositors on demand.

A Minimum

B Exact reserve

C Zero

D Maximum

💡 Short Explanation

�� Loans generate interest income. �� Greater lending generally increases bank profits. �� Banks lend the maximum possible amount while maintaining required reserves.

✅ Correct Answer Explanation

Commercial banks earn most of their income from the interest charged on loans. Therefore, they aim to lend the maximum possible amount, provided they maintain sufficient reserves to meet withdrawal demands and comply with RBI regulations. Thus, Option D is correct.

❓ Why Other Options Are Incorrect

�� Option A → Minimum
Incorrect because banks seek to maximize profitable lending, not minimize it.
�� Option B → Exact reserve
Incorrect because reserves are maintained separately and are not the amount intended for lending.
�� Option C → Zero
Incorrect because banks exist primarily to lend and earn interest.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Identify the option consistent with the profit motive of commercial banks while considering reserve requirements.

Final Logic:

Banks maximize lending subject to regulatory reserve constraints.

🧠 Memory Trick

"More Loans = More Interest."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Credit Creation and Banking Profit

6 Which of the following instruments are commercial bank reserves NOT typically composed of according to the source material?

A Cash kept with the bank

B Deposits with the RBI

C Equity shares of private tech companies

D Financial instruments issued by RBI

💡 Short Explanation

�� Bank reserves consist of highly liquid and approved assets. �� Cash and RBI-related reserves form part of bank reserves. �� Equity shares of private companies are not reserve assets.

✅ Correct Answer Explanation

Commercial bank reserves are maintained to satisfy statutory requirements and ensure liquidity. According to the NCERT discussion, reserves generally include: Cash held by the bank. Deposits maintained with the RBI. Approved liquid financial instruments issued by the RBI or other approved authorities. Equity shares of private technology companies are market-risk investments, not reserve assets. They are neither highly liquid nor approved for meeting reserve requirements. Therefore, Option C is correct.

❓ Why Other Options Are Incorrect

�� Option A → Cash kept with the bank
Incorrect because cash is an essential component of bank reserves.
�� Option B → Deposits with the RBI
Incorrect because banks maintain deposits with the RBI to satisfy reserve requirements.
�� Option D → Financial instruments issued by RBI
Incorrect because approved RBI-issued instruments may form part of banks' liquid reserve holdings according to the source material.

🎯 Strategy

Used

Odd One Out

Application:

Identify the option that is fundamentally different from the approved reserve assets maintained by commercial banks.

Final Logic:

Private company shares are investments, not statutory reserve assets.

🧠 Memory Trick

"Reserves = Safe & Liquid, Not Shares."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Commercial Bank Reserves

7 In a fictional economy with only one bank and strictly no physical currency in circulation, if initial deposits are Rs 100, what is the value of M1? (M1 = Currency + Deposits).

A Rs 0

B Rs 100

C Rs 200

D Rs 80

💡 Short Explanation

�� M1 = Currency + Demand Deposits. �� Currency in circulation is zero. �� Therefore, M1 equals the value of deposits.

✅ Correct Answer Explanation

The formula for M1 is: M1 = Currency with the Public + Demand Deposits Given: Currency = ₹0 Deposits = ₹100 Therefore, M1 = 0 + 100 = ₹100 Hence, Option B is correct.

❓ Why Other Options Are Incorrect

�� Option A → Rs 0
Incorrect because demand deposits are part of M1.
�� Option C → Rs 200
Incorrect because there is no currency to add to the deposits.
�� Option D → Rs 80
Incorrect because ₹80 represents the first-round loan, not the money supply.

🎯 Strategy

Used

Substitution

Application:

Substitute the given values into the M1 formula.

Final Logic:

Zero currency plus ₹100 deposits equals ₹100.

🧠 Memory Trick

"No Cash? M1 = Deposits Only."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: M1 Measure of Money Supply

8 If a bank's total assets equal Rs 500 and total liabilities equal Rs 500, why is its Net Worth exactly zero?

A Because Net Worth = Assets - Liabilities

B Because the bank has gone bankrupt

C Because it has no reserves left

D Because the RBI confiscated its deposits

💡 Short Explanation

�� Net Worth is calculated by subtracting liabilities from assets. �� Assets and liabilities are equal. �� Therefore, Net Worth equals zero.

✅ Correct Answer Explanation

The accounting identity for Net Worth is: Net Worth = Total Assets − Total Liabilities Given: Assets = ₹500 Liabilities = ₹500 Net Worth = ₹500 − ₹500 = ₹0 This does not imply bankruptcy; it simply reflects the accounting position. Therefore, Option A is correct.

❓ Why Other Options Are Incorrect

�� Option B → Because the bank has gone bankrupt
Incorrect because equal assets and liabilities do not necessarily indicate insolvency.
�� Option C → Because it has no reserves left
Incorrect because reserve holdings are unrelated to the accounting calculation of Net Worth.
�� Option D → Because the RBI confiscated its deposits
Incorrect because no such event is implied in the question.

🎯 Strategy

Used

Substitution

Application:

Apply the Net Worth formula using the given values.

Final Logic:

Assets minus liabilities equals zero.

🧠 Memory Trick

"Net Worth = Own Wealth = Assets − Liabilities."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Balance Sheet and Net Worth

9 Match the regulatory concepts:

List I	List II
1. CRR	a. Risk mitigated by reserve limits
2. RBI	b. Main commercial bank liability
3. Over-lending	c. Central bank setting the legal rules
4. Deposit	d. Percentage of deposits kept as cash reserves

A 1-a, 2-b, 3-c, 4-d

B 1-d, 2-c, 3-a, 4-b

C 1-c, 2-d, 3-b, 4-a

D 1-b, 2-a, 3-d, 4-c

💡 Short Explanation

�� CRR specifies cash reserves. �� RBI frames reserve regulations. �� Deposits are bank liabilities. �� Reserve rules reduce over-lending.

✅ Correct Answer Explanation

The correct matching is: CRR → Percentage of deposits kept as cash reserves (d) RBI → Central bank setting the legal rules (c) Over-lending → Risk mitigated by reserve limits (a) Deposit → Main commercial bank liability (b) Only Option B correctly matches all four concepts.

❓ Why Other Options Are Incorrect

�� Option A → 1-a, 2-b, 3-c, 4-d
Incorrect because CRR is not the risk itself, and RBI is not a commercial bank liability.
�� Option C → 1-c, 2-d, 3-b, 4-a
Incorrect because the CRR is not the RBI, and deposits are not reserve limits.
�� Option D → 1-b, 2-a, 3-d, 4-c
Incorrect because CRR is not a liability and deposits are not central banks.

🎯 Strategy

Used

Option Grouping

Application:

Match each regulatory concept with its standard banking definition.

Final Logic:

Only Option B correctly pairs every concept.

🧠 Memory Trick

"CRR–Cash, RBI–Rules, Deposit–Liability."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: CRR and Reserve Requirements

10 Identify the correct statements regarding reserve requirements:
I. The reserve requirement is a legally binding mandate.
II. It applies equally to all commercial banks in the system.

A Only I is correct

B Only II is correct

C Both I and II are correct

D Neither I nor II is correct

💡 Short Explanation

�� Reserve requirements are prescribed by the RBI. �� Compliance is mandatory. �� They apply uniformly to scheduled commercial banks as specified by RBI regulations.

✅ Correct Answer Explanation

Statement I is correct because reserve requirements such as the Cash Reserve Ratio (CRR) are legally binding regulations issued by the Reserve Bank of India. Statement II is also correct because these reserve requirements apply uniformly to the commercial banks covered under RBI regulations, ensuring consistency in the banking system. Therefore, Option C is the correct answer.

❓ Why Other Options Are Incorrect

�� Option A → Only I is correct
Incorrect because Statement II is also correct.
�� Option B → Only II is correct
Incorrect because Statement I is also correct.
�� Option D → Neither I nor II is correct
Incorrect because both statements accurately describe reserve requirements.

🎯 Strategy

Used

Elimination

Application:

Evaluate each statement independently before selecting the combined answer.

Final Logic:

Both statements correctly explain the legal nature of reserve requirements.

🧠 Memory Trick

"RBI Rule = Mandatory Rule."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Reserve Requirements (CRR)

11 Statutory Liquidity Ratio (SLR) dictates that banks must maintain a portion of their reserves in ________ form in the short term.

A Fixed real estate

B Liquid

C Long-term bond

D Non-transferable

💡 Short Explanation

�� SLR requires banks to maintain liquid assets. �� These assets can be converted into cash quickly. �� The objective is to ensure liquidity and financial stability.

✅ Correct Answer Explanation

The Statutory Liquidity Ratio (SLR) is the percentage of deposits that commercial banks are required to maintain in the form of liquid assets, such as cash, gold, or approved government securities. These assets enable banks to meet short-term obligations and withdrawal demands while strengthening the stability of the banking system. Therefore, Option B is correct.

❓ Why Other Options Are Incorrect

�� Option A → Fixed real estate
Incorrect because buildings and land are fixed assets and cannot be readily converted into cash.
�� Option C → Long-term bond
Incorrect because SLR emphasizes liquidity rather than long-term investments alone.
�� Option D → Non-transferable
Incorrect because SLR assets must be readily available and liquid.

🎯 Strategy

Used

Odd One Out

Application:

Identify the option that satisfies the requirement of maintaining readily available funds.

Final Logic:

Only liquid assets meet the objective of the SLR.

🧠 Memory Trick

"SLR = Stay Liquid Ready."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Statutory Liquidity Ratio (SLR)

12 Assertion (A): Statutory Liquidity Ratio (SLR) is an irrelevant concept to banking operations.
Reason (R): Commercial banks only need to worry about maintaining the CRR.

A Both false

B A true, R false

C Both true, R explains A

D A false, R true

💡 Short Explanation

�� SLR is an important statutory reserve requirement. �� Commercial banks must comply with both CRR and SLR. �� Both ratios help regulate liquidity and financial stability.

✅ Correct Answer Explanation

The Assertion is false because the Statutory Liquidity Ratio (SLR) is an important banking regulation that ensures commercial banks maintain sufficient liquid assets. The Reason is also false because banks are required to comply with both the Cash Reserve Ratio (CRR) and the Statutory Liquidity Ratio (SLR). They cannot ignore the SLR. Therefore, Option A is correct.

❓ Why Other Options Are Incorrect

�� Option B → A true, R false
Incorrect because the Assertion itself is false.
�� Option C → Both true, R explains A
Incorrect because neither statement is true.
�� Option D → A false, R true
Incorrect because the Reason is also false.

🎯 Strategy

Used

Elimination

Application:

Verify the correctness of both the Assertion and the Reason independently.

Final Logic:

Both statements contradict the statutory banking regulations described in NCERT.

🧠 Memory Trick

"Banks Need Both: CRR + SLR."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: CRR and SLR

13 If the required reserve ratio (CRR) is increased to 25%, what will be the value of the money multiplier?

A 5

B 2.5

C 10

D 4

💡 Short Explanation

�� Money Multiplier = 1 ÷ CRR. �� CRR = 25% = 0.25. �� Money Multiplier = 4.

✅ Correct Answer Explanation

According to the NCERT formula: Money Multiplier = 1 ÷ CRR Given: CRR = 25% = 0.25 Money Multiplier = 1 ÷ 0.25 = 4 This means every ₹1 of reserve money can support a maximum of ₹4 of deposits. Therefore, Option D is correct.

❓ Why Other Options Are Incorrect

�� Option A → 5
Incorrect because a multiplier of 5 corresponds to a CRR of 20%.
�� Option B → 2.5
Incorrect because it is not obtained using the formula.
�� Option C → 10
Incorrect because such a multiplier would require a CRR of 10%.

🎯 Strategy

Used

Substitution

Application:

Convert the percentage into decimal form and substitute it into the formula.

Final Logic:

1 ÷ 0.25 = 4.

🧠 Memory Trick

"25% Reserve = Multiplier 4."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Money Multiplier

14 Order the monetary amounts logically as they appear in the multiplier process:
1. Round 1 Total Deposit: Rs 100.
2. Round 1 Loan made: Rs 80.
3. Round 2 Total Deposit: Rs 180.
4. Round 2 Loan made: Rs 64.

A 4, 3, 2, 1

B 1, 3, 2, 4

C 1, 2, 3, 4

D 2, 1, 4, 3

💡 Short Explanation

�� Credit creation begins with an initial deposit. �� The bank lends the excess reserves. �� The loan becomes a new deposit in the next round.

✅ Correct Answer Explanation

The multiplier process follows these steps: 1. Initial Deposit = ₹100. 2. With a CRR of 20%, the bank lends ₹80 after keeping ₹20 as reserves. 3. The ₹80 loan is deposited back into the banking system, making the cumulative deposits ₹180 (₹100 + ₹80). 4. In the second round, 20% of ₹80 (₹16) is kept as reserves, and ₹64 is lent. Thus, the correct sequence is 1 → 2 → 3 → 4. Therefore, Option C is correct.

❓ Why Other Options Are Incorrect

�� Option A → 4, 3, 2, 1
Incorrect because it reverses the chronological process.
�� Option B → 1, 3, 2, 4
Incorrect because the first loan must occur before the second-round deposit.
�� Option D → 2, 1, 4, 3
Incorrect because the initial deposit must occur before any lending.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Arrange the events according to the chronological sequence of deposit expansion.

Final Logic:

Deposit precedes loan, and the loan precedes the next-round deposit.

🧠 Memory Trick

"100 → 80 → 180 → 64."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Deposit Expansion Process

15 The statutory requirement of the reserve ratio acts as a strict ________ to the total amount of credit that banks can mathematically create.

A Catalyst

B Limit

C Multiplier

D Guarantee

💡 Short Explanation

�� The reserve ratio restricts excessive lending. �� Higher reserve requirements reduce credit creation. �� The reserve ratio acts as the upper limit on money creation.

✅ Correct Answer Explanation

The Cash Reserve Ratio (CRR) determines the proportion of deposits that commercial banks must keep as reserves. Since banks cannot lend these reserves, the CRR directly limits the amount of loans and deposits that can be created. Thus, the reserve ratio serves as a strict limit on the total amount of credit that banks can create. Therefore, Option B is correct.

❓ Why Other Options Are Incorrect

�� Option A → Catalyst
Incorrect because the reserve ratio restricts rather than accelerates credit creation.
�� Option C → Multiplier
Incorrect because the reserve ratio determines the multiplier; it is not the multiplier itself.
�� Option D → Guarantee
Incorrect because the reserve ratio regulates lending but does not guarantee loans or deposits.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Focus on the role played by the reserve ratio in controlling the banking system.

Final Logic:

The reserve ratio limits, rather than promotes, credit creation.

🧠 Memory Trick

"Higher Reserve = Lower Credit."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Reserve Ratio as a Limit to Credit Creation

16 What is the direct consequence if the Central Bank (RBI) increases the reserve ratio from 20% to 25%?

A The banking system will be able to loan out less money

B Money supply will increase infinitely

C The money multiplier will increase structurally

D Banks will stop accepting deposits entirely

💡 Short Explanation

�� A higher reserve ratio means banks must keep more money as reserves. �� Less money remains available for lending. �� Credit creation and money supply decline.

✅ Correct Answer Explanation

When the Reserve Bank of India (RBI) increases the Cash Reserve Ratio (CRR), commercial banks are required to keep a larger proportion of deposits as reserves with the RBI. Consequently, banks have less money available for lending, reducing credit creation and the money multiplier. Thus, Option A is correct.

❓ Why Other Options Are Incorrect

�� Option B → Money supply will increase infinitely
Incorrect because a higher CRR decreases lending capacity and reduces money creation.
�� Option C → The money multiplier will increase structurally
Incorrect because the money multiplier is inversely related to the CRR. A higher CRR lowers the multiplier.
�� Option D → Banks will stop accepting deposits entirely
Incorrect because banks continue accepting deposits regardless of changes in the CRR.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Relate the effect of a higher reserve ratio to the lending capacity of banks.

Final Logic:

Higher CRR → Lower Lending → Lower Money Supply.

🧠 Memory Trick

"Higher CRR = Lower Loans."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Reserve Ratio and Credit Creation

17 Which statement defines the expansion rounds correctly?
I. The deposit expansion occurs entirely in a single round.
II. The loan given in one round becomes the new deposit for the next round.

A Both I and II are correct

B Only I is correct

C Neither I nor II is correct

D Only II is correct

💡 Short Explanation

�� Credit creation occurs over multiple rounds. �� Each loan becomes the next deposit. �� The process continues until excess reserves are exhausted.

✅ Correct Answer Explanation

Statement I is incorrect because credit creation does not occur in a single round. Instead, it continues through several rounds of lending and redepositing. Statement II is correct because the amount lent by one bank is usually deposited into another bank (or the same bank in a simplified model), becoming the basis for the next round of lending. Therefore, Option D is correct.

❓ Why Other Options Are Incorrect

�� Option A → Both I and II are correct
Incorrect because Statement I is false.
�� Option B → Only I is correct
Incorrect because Statement I is incorrect.
�� Option C → Neither I nor II is correct
Incorrect because Statement II correctly describes the deposit expansion process.

🎯 Strategy

Used

Elimination

Application:

Evaluate each statement independently before selecting the correct combination.

Final Logic:

Only Statement II correctly explains the multiple-round expansion process.

🧠 Memory Trick

"Loan Today = Deposit Tomorrow."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Multiple Credit Creation

18 With an initial primary deposit of Rs 100 and a CRR of 20%, what is the final maximum total deposit created by the system?

A Rs 200

B Rs 400

C Rs 500

D Rs 1000

💡 Short Explanation

�� Money Multiplier = 1 ÷ CRR. �� CRR = 20% = 0.20. �� Total Deposits = ₹100 × 5 = ₹500.

✅ Correct Answer Explanation

The money multiplier is calculated as: Money Multiplier = 1 ÷ CRR Given: CRR = 20% = 0.20 Money Multiplier = 1 ÷ 0.20 = 5 Maximum Total Deposits: = Initial Deposit × Money Multiplier = ₹100 × 5 = ₹500 Therefore, Option C is correct.

❓ Why Other Options Are Incorrect

�� Option A → Rs 200
Incorrect because it underestimates the deposit expansion process.
�� Option B → Rs 400
Incorrect because it does not follow the money multiplier formula.
�� Option D → Rs 1000
Incorrect because it would require a much lower reserve ratio.

🎯 Strategy

Used

Substitution

Application:

Substitute the CRR into the multiplier formula and multiply it by the initial deposit.

Final Logic:

��100 × (1 ÷ 0.20) = ₹500.

🧠 Memory Trick

"20% CRR → ×5 Deposits."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Money Multiplier and Deposit Expansion

📄 Passage

"In our example, money multiplier = 1/CRR. Thus, reserves of Rs 100 create deposits of Rs (5 × 100) = Rs 500. 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."

Based on the passage, what is the mathematical relationship between the money multiplier and the CRR?

A Direct proportionality

B Inverse proportionality (1/CRR)

C Equal relationship

D Exponential relationship

💡 Short Explanation

�� Money Multiplier = 1 ÷ CRR. �� A higher CRR lowers the multiplier. �� A lower CRR raises the multiplier.

✅ Correct Answer Explanation

The passage explicitly states: Money Multiplier = 1 / CRR This means the relationship is inverse. If the CRR increases, the money multiplier decreases. If the CRR decreases, the money multiplier increases. Thus, the money multiplier and the CRR are inversely proportional. Therefore, Option B is correct.

❓ Why Other Options Are Incorrect

�� Option A → Direct proportionality
Incorrect because the multiplier decreases when the CRR increases.
�� Option C → Equal relationship
Incorrect because the multiplier is not numerically equal to the CRR.
�� Option D → Exponential relationship
Incorrect because the relationship is reciprocal, not exponential.

🎯 Strategy

Used

Substitution

Application:

Recall the formula Money Multiplier = 1 ÷ CRR and identify the nature of the relationship.

Final Logic:

The reciprocal formula proves an inverse relationship.

🧠 Memory Trick

"CRR Up → Multiplier Down."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Money Multiplier Formula

📄 Passage

According to the passage, what would be the impact on the money supply if the RBI increases the reserve ratio?

A Money supply would fall

B Money supply would rise sharply

C Lending capacity of banks would increase

D Deposits would remain completely unaffected

💡 Short Explanation

�� A higher reserve ratio reduces lending. �� Lower lending reduces deposit creation. �� Therefore, money supply decreases.

✅ Correct Answer Explanation

As stated in the passage, increasing the reserve ratio requires banks to keep a larger portion of deposits as reserves. This reduces the amount available for lending. Lower lending results in: Reduced deposit creation. A lower money multiplier. A decline in the overall money supply. Hence, Option A is correct.

❓ Why Other Options Are Incorrect

�� Option B → Money supply would rise sharply
Incorrect because increasing the reserve ratio reduces, rather than increases, money creation.
�� Option C → Lending capacity of banks would increase
Incorrect because a higher reserve ratio decreases the funds available for lending.
�� Option D → Deposits would remain completely unaffected
Incorrect because changes in lending directly affect deposit creation and the money supply.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Use the passage to connect reserve ratio changes with lending and money supply.

Final Logic:

Higher reserve ratio → Lower lending → Lower deposits → Lower money supply.

🧠 Memory Trick

"Reserve Up, Money Down."

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Effect of Reserve Ratio on Money Supply

CUET UG Economics Booster Test 2 - Credit Creation and Money Multiplier

Test Complete!

Answer Review