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When the cash reserve ratio (CRR) is increased by the RBI, it will:
- a)Increase the supply of money in the economy
- b)Decrease the supply of money in the economy
- c)No impact on the supply of money in the economy
- d)Initially increase the supply but later on decrease automatically.
- e)None of these
Correct answer is option 'B'. Can you explain this answer?
Most Upvoted Answer
When the cash reserve ratio (CRR) is increased by the RBI, it will:a)...
Understanding Cash Reserve Ratio (CRR)
The Cash Reserve Ratio (CRR) is the percentage of a bank's total deposits that must be kept in reserve with the Reserve Bank of India (RBI). It plays a crucial role in controlling the money supply in the economy.
Impact of Increasing CRR
When the RBI increases the CRR, it affects the liquidity available to commercial banks. Here’s how it works:
- Reduced Lending Capacity:
- With a higher CRR, banks are required to hold more money in reserve and can lend out less. This directly decreases the amount of money circulating in the economy.
- Decrease in Money Supply:
- As banks have to set aside a larger portion of their deposits, the funds available for loans and investments diminish. Consequently, the overall money supply in the economy decreases.
Consequences of a Higher CRR
- Interest Rates:
- With reduced funds for lending, banks may increase interest rates on loans, making borrowing more expensive.
- Economic Activity:
- Higher interest rates can lead to reduced consumer spending and business investment, slowing down economic growth.
Conclusion
In summary, an increase in the Cash Reserve Ratio (CRR) by the RBI leads to a decrease in the supply of money in the economy, making option 'B' the correct answer. This mechanism is essential for managing inflation and ensuring economic stability.
The Cash Reserve Ratio (CRR) is the percentage of a bank's total deposits that must be kept in reserve with the Reserve Bank of India (RBI). It plays a crucial role in controlling the money supply in the economy.
Impact of Increasing CRR
When the RBI increases the CRR, it affects the liquidity available to commercial banks. Here’s how it works:
- Reduced Lending Capacity:
- With a higher CRR, banks are required to hold more money in reserve and can lend out less. This directly decreases the amount of money circulating in the economy.
- Decrease in Money Supply:
- As banks have to set aside a larger portion of their deposits, the funds available for loans and investments diminish. Consequently, the overall money supply in the economy decreases.
Consequences of a Higher CRR
- Interest Rates:
- With reduced funds for lending, banks may increase interest rates on loans, making borrowing more expensive.
- Economic Activity:
- Higher interest rates can lead to reduced consumer spending and business investment, slowing down economic growth.
Conclusion
In summary, an increase in the Cash Reserve Ratio (CRR) by the RBI leads to a decrease in the supply of money in the economy, making option 'B' the correct answer. This mechanism is essential for managing inflation and ensuring economic stability.
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When the cash reserve ratio (CRR) is increased by the RBI, it will:a)...
When RBI increases the CRR, fewer funds are available with banks as they have to keep larger portions of their cash in hand with RBI. Thus hike in CRR leads to an increase of interest rates on loans provided by the Banks. Reduction in CRR sucks money out of the system causing a decrease in the money supply.
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When the cash reserve ratio (CRR) is increased by the RBI, it will:a)Increase the supply of money in the economyb)Decrease the supply of money in the economyc)No impact on the supply of money in the economyd)Initially increase the supply but later on decrease automatically.e)None of theseCorrect answer is option 'B'. Can you explain this answer?
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