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If the Central Bank wants to decrease the money supply in the economy, it will likely:
- a)Increase the Cash Reserve Ratio (CRR)
- b)Decrease the Bank Rate
- c)Conduct open market purchases
- d)Decrease the Reverse Repo Rate
Correct answer is option 'A'. Can you explain this answer?
Most Upvoted Answer
If the Central Bank wants to decrease the money supply in the economy,...
To decrease the money supply in the economy, the Central Bank can increase the Cash Reserve Ratio (CRR). The CRR is the percentage of deposits that commercial banks are required to hold as reserves with the central bank. By increasing the CRR, the central bank reduces the amount of money that banks can lend out, thereby decreasing the overall money supply.
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If the Central Bank wants to decrease the money supply in the economy,...
Understanding Money Supply Control
When a Central Bank aims to decrease the money supply in an economy, it employs various monetary policy tools. One of the most effective methods is adjusting the Cash Reserve Ratio (CRR).
What is Cash Reserve Ratio (CRR)?
- The CRR is the percentage of a bank's total deposits that must be held in reserve with the Central Bank.
- An increase in the CRR means banks must hold more funds in reserve and have less available for lending.
Impact of Increasing CRR
- Reduced Lending Capacity: By raising the CRR, banks have less money to lend to consumers and businesses, which leads to a contraction in the money supply.
- Higher Interest Rates: With less available capital for loans, banks may increase interest rates, making borrowing more expensive and further reducing spending and investment.
Comparison with Other Options
- Decrease the Bank Rate: This would typically encourage more borrowing and increase the money supply, contradicting the goal of reducing it.
- Conduct Open Market Purchases: This involves buying securities to inject money into the economy, which also increases the money supply.
- Decrease the Reverse Repo Rate: Lowering this rate would encourage banks to lend more to the market rather than keeping funds with the Central Bank, also increasing the money supply.
Conclusion
In summary, increasing the Cash Reserve Ratio (CRR) effectively decreases the money supply by limiting the funds banks can lend. It is a direct and powerful tool for the Central Bank to control inflation and stabilize the economy.
When a Central Bank aims to decrease the money supply in an economy, it employs various monetary policy tools. One of the most effective methods is adjusting the Cash Reserve Ratio (CRR).
What is Cash Reserve Ratio (CRR)?
- The CRR is the percentage of a bank's total deposits that must be held in reserve with the Central Bank.
- An increase in the CRR means banks must hold more funds in reserve and have less available for lending.
Impact of Increasing CRR
- Reduced Lending Capacity: By raising the CRR, banks have less money to lend to consumers and businesses, which leads to a contraction in the money supply.
- Higher Interest Rates: With less available capital for loans, banks may increase interest rates, making borrowing more expensive and further reducing spending and investment.
Comparison with Other Options
- Decrease the Bank Rate: This would typically encourage more borrowing and increase the money supply, contradicting the goal of reducing it.
- Conduct Open Market Purchases: This involves buying securities to inject money into the economy, which also increases the money supply.
- Decrease the Reverse Repo Rate: Lowering this rate would encourage banks to lend more to the market rather than keeping funds with the Central Bank, also increasing the money supply.
Conclusion
In summary, increasing the Cash Reserve Ratio (CRR) effectively decreases the money supply by limiting the funds banks can lend. It is a direct and powerful tool for the Central Bank to control inflation and stabilize the economy.
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If the Central Bank wants to decrease the money supply in the economy, it will likely:a)Increase the Cash Reserve Ratio (CRR)b)Decrease the Bank Ratec)Conduct open market purchasesd)Decrease the Reverse Repo RateCorrect answer is option 'A'. Can you explain this answer?
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