Process of credit creation by commercial banks class 12

Money or credit creation is one of the most important functions of commercial banks. It is the process of expansion of credit through derivative deposits. Money creation by banks is determined by: 1. The amount of initial deposit 2. The cash reserve ratio The process of credit creation is based on the following two assumptions: 1. The entire commercial banking system is one unit termed as "Banks". 2. All receipts and payments are routed through banks. Suppose that the initial deposit in banks is Rs. 1,000 and CRR is 10%. It means that the banks are required to keep only 10% of deposits (i.e, Rs. 1 , 000 × 10 100 = 100 ) as cash reserves and are free to lend the remaining Rs.900. Banks deposit this remaining amount (Rs.900) in the accounts of the borrowers, thus creating a secondary deposit. Suppose the borrowers withdraw the entire amount and make payments for goods and services received. The sellers of these goods and services receive Rs.900 as revenues and deposit the same in their bank accounts. This will increase the total demand deposits of banks by Rs.900 The banks again keep 10% (i.e,Rs. 900 × 10 100 = 90 ) of the new deposits as cash reserves and lend the remaining amount of Rs.810. This way the deposits keep increasing, with the deposit in each successive round being 90% of the previous round. The working of the process of credit creation has been shown in the following table. Process of Money Creation Round Deposits (Rs.) Cash Reserves Loans (Rs.) (CRR =10%) Init...

7) OBSERVATION INTRODUCTION “A bank may receive interest simply by permitting customers to overdraw their accounts or by purchasing securities and paying for them with its own cheques, thus increasing the total bank deposits.” [1] – Benhams A central bank is the essential wellspring of cash supply in an economy through the flow of currency. It guarantees the accessibility of cash for meeting the exchange needs of an economy and encouraging different financial exercises, for example, creation, dissemination, and utilization. Notwithstanding, for this reason, the central bank needs to rely on the reserves of commercial banks. These reserves of commercial banks are the optional wellspring of money supply in an economy. The main Credit creation isolates a bank from other monetary establishments. In basic terms, credit creation is the development of reserves. Furthermore, banks can extend their demand deposits as numerous of their money holds since demand deposits fill in as the important medium of trade. The two most significant parts of credit creation are: 1. Liquidity – The bank should pay money to its contributors when they practice their entitlement to request money against their deposits. 2. Profitability – Banks are profit-driven undertakings. Hence, a bank should allow credits in a way that acquires higher interest than what it pays on its stores. Factors affecting the credit creation of a bank- • The capacity of banks to create credit. • The accessibility of money dep...

It is true that commercial Banks creates moneythrough credit creation. The Central Bank issues credit on basis of primarydeposits and create money many more times than the deposits. These banks lendmoney for productive work which increase production, productivity andultimately National Income. We know that RBI prints new, money, while on the other hand, commercial bankmultiplies money supplied by the RBI through the process of credit creation.People deposit money in their respective bank accounts. As per the central bankguidelines, the commercial banks are required to maintain a portion of totaldeposits in form of cash reserve. With the help of the past experiences, the commercial banks know that not allthe depositor will turn-up for withdrawal at the same day. Consequently, thecommercial banks lend the remaining portion (left after maintaining cashreserve of the total deposits to the general public in form of credit, loansand advances. It is the second portion of the total deposits that is responsiblefor the credit creation (credit money). The process of creation of credit money begins as soon as the commercial banksstart the lending process. The amount of the credit money increases as the banklend loans to more number of people in the economy. The deposit of money by thepeople in the banks and the subsequent lending of loans by the commercial banksis a never-ending process. This lending process of the commercial banksincreases the rate of investment and production in the...

They create credit money through their lending operations. They accept deposits and advance loans. In this process, they create credit and lend more money than they have as cash deposits. Money creation is determined by 1. The amount of the initial fresh deposits. 2. The Legal Reserve Ratio (LRR) 3. Money Multiplies = 1/LRR Total Money Creation = Initial Deposits x 1/LRR e.g. Let the LRR be 20% Fresh deposits = ₹ 20000 The amount required by the banks to keep = ₹ 4000 as cash suppose the banks lend the remaining amount of ₹ 16000. people who borrow, use this money for making payments, also all the transactions will be carried out through banks. Further, it is also assumed that for those who receive fresh deposits ₹ 16000, the banks again keep ₹3,200 as cash and lend ₹12,800, which is also 80% of the last deposit, the money again comes back to the banks leading to a fresh deposit of ₹12,800. In this way, the money goes on multiplying, and ultimately total money created is ₹100,000 Total money creation = 20,000 x 1/20 x 100 = ₹100,000 Categories • • (31.9k) • (8.8k) • (764k) • (248k) • (2.9k) • (5.2k) • (664) • (121k) • (72.1k) • (21.7k) • (26.9k) • (17.7k) • (1.8k) • (3.8k) • (19.6k) • (1.4k) • (14.2k) • (12.5k) • (9.3k) • (7.7k) • (3.9k) • (6.7k) • (63.8k) • (26.6k) • (23.7k) • (14.6k) • (25.7k) • (530) • (84) • (766) • (49.1k) • (63.8k) • (1.8k) • (59.3k) • (24.5k)

Credit creation by commercial banks is the process of the creation of credit or money by banks when they lend money to borrowers. This process involves a series of steps that lead to the creation of credit, which is then used by borrowers to purchase goods and services. Process of credit creation by commercial banks: 1. Deposit mobilization - The first step in the process of credit creation by commercial banks is deposit mobilization. Banks mobilize deposits from their customers, which are then used to create credit. For example, if a customer deposits Rs. 10,000 in a bank, the bank can use this money to create credit. 2. Reserve Ratio - Banks are required to maintain a certain reserve ratio, which is the ratio of reserves to deposits. The reserve ratio is set by the central bank and is usually around 10%. This means that for every Rs. 100 deposited, the bank must keep Rs. 10 as reserves. 3. Lending - Once the bank has mobilized deposits and maintained reserves, it can then lend money to borrowers. For example, if a borrower wants to borrow Rs. 5,000, the bank can lend this money to the borrower. 4. Deposit creation - When the bank lends money, it creates a deposit for the borrower. For example, if the bank lends Rs. 5,000 to a borrower, it creates a deposit of Rs. 5,000 in the borrower's account. This deposit can then be used by the borrower to make purchases. 5. Repeat the process - The process of credit creation can be repeated again and again. When the borrower spends ...