If the required reserve ratio set by the RBI is 4%, what is the maximum increase in the money supply that can result from an injection of Rs. 10,000 by the commercial banks?
Answer
Rs. 2,50,000
The correct answer is Rs. 2,50,000 — Hence, the maximum possible increase in the money supply is Rs. 2,50,000.
Step-by-step solution
- Convert the required reserve ratio to decimal form: 4% = 0.04.
- Calculate the money multiplier using the formula multiplier = 1 / reserve ratio.
- Multiplier = 1 / 0.04 = 25.
- Multiply the initial injection by the multiplier: 25 × Rs. 10,000 = Rs. 2,50,000.
- Hence, the maximum possible increase in the money supply is Rs. 2,50,000.
Common mistake: Using 4% as 0.4 instead of 0.04
Concept tested: Money multiplier and reserve ratio
Published · How this solution was prepared and checked
Related questions
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