Q.The cash reserve ratio (CRR) fixed by the central bank is 20%. If a bank receives a primary (fresh) deposit of ₹1,000, calculate

This applies the credit-multiplier idea from the CRR discussion: a lower reserve ratio lets each rupee of deposit support a larger multiple of total credit.

This problem applies the credit-multiplier relationship from Section d, which states that banks create credit as a multiple of their reserves, and that the credit multiplier equals 1 divided by the cash reserve ratio.

Given: CRR = 20% = 0.20; primary (fresh) deposit = ₹1,000; banks lend out everything not kept as required reserves.

1. Credit multiplier. Credit multiplier = 1 / CRR = 1 / 0.20 = 5.
2. Total deposits created by the banking system. Total deposits = Primary deposit × Credit multiplier = ₹1,000 × 5 = ₹5,000.
3. Total derivative credit (new loans) created. Derivative credit = Total deposits − Primary deposit = ₹5,000 − ₹1,000 = ₹4,000. Verification (dual-solve). We can check the total-deposit figure by adding up the deposits created round by round. Each round, the bank keeps 20% as reserve and lends 80%; the loan comes back as the next deposit:

• Round 1 deposit = ₹1,000 (keeps ₹200, lends ₹800)
• Round 2 deposit = ₹800 (keeps ₹160, lends ₹640)
• Round 3 deposit = ₹640 ... and so on. …

Round-by-round (geometric-series) method: sum the successive deposits 1,000 + 800 + 640 + ... = 1,000 / (1 − 0.80) = ₹5,000; subtract the original ₹1,000 to get ₹4 …

Two common errors: (1) reporting total DEPOSITS (₹5,000) when the question asks for the CREDIT created (₹4,000, i.e. after subtracting the original deposit); and (2) mis-computing the multiplier by using the …