Question

If the bank is only expected to keep 50 percent of its deposits as reserves. What is the value of a money multiplier?

• A. 0.5
• B. 5
• C. 2
• D. 50

Hint:

Money multiplier formula: \(k = \frac{1}{\text{Reserve Ratio}}\).
If \(r = 10\% \implies k = 10\).
If \(r = 20\% \implies k = 5\).
If \(r = 50\% \implies k = 2\).

Answer 1

The Correct Option is C

Concept:
The credit creation process in the banking system enables commercial banks to create deposits that are multiples of their primary cash reserves.
This amplification is determined inversely by the legal reserve ratio.

Step 1: Formula for Money Multiplier:
The money multiplier (\(k_m\)) is defined as the reciprocal of the reserve ratio (\(r\)): \[ k_m = \frac{1}{\text{Legal Reserve Ratio (LRR)}} \]

Step 2: Calculation:
The given reserve requirement is: \[ \text{LRR} = 50\% = \frac{50}{100} = 0.50 \] Substituting into the formula: \[ k_m = \frac{1}{0.50} = 2 \] This indicates that every rupee of cash reserves can support up to 2 rupees of total credit deposits.
Final Answer:
The value of the money multiplier is 2. Therefore, option (C) is correct.