Page 157 - DECO402_Macro Economics

Macroeconomic Theory

Notes Continuing the above example where ΔP = ` 1,000 and r (CRR)= 10%, process of credit creation will
be as such:
ΔD = ΔP +ΔP (1 – r) + ΔP (1 – r) + ΔP (1 – r) +...........
3
2
= 1,000 + 1,000 (1 – 10%) + 1,000 (1 – 10%) ............
2
 9   9  2
= 1,000 + 1,000 ×   + 1,000 ×   + ..........
 10   10 
  9  9  2  
= 1,000  1 + +   + ......... 
 10  10    
1 1
= 1,000 × 9 = 1,000 × 10 9
−
1 −
10 10
= 1,000 × 10 = ` 1,000
In this way an initial primary deposit of ` 1000,
creates a credit of ` 10000 in the economy, here
cash reserve ratio is 10 percent and there is no
excess (unnecessary) flow of cash from the banking
system. This process of credit creation is shown
through figure 17.1.
In Figure 17.1 axis X deposits and axis Y measure
various deposit rounds happening due to primary
deposit. Primary deposit is ` 1,000 in the first round
and net deposit is also ` 1,000. Initial deposit of `
1,000 creates deposit of ` 9,00 in second round and
` 8,10 in third round. In this manner, this round
of deposit creation will go on until all primary Deposit (`)
deposits are not divided in cash reserve ratio.
Figure 17.1
(2) Credit Expansion in Multiple
Banking system

Credit expansion process in multiple banking system, though the medium of providing loan, is like
single banking system only, which we have discussed earlier. Will ananlyse credit expansion by using
the visualized equilibrium letter (Kalpit santulan Patra) of various commercial banks. Here banking
system increases it multiple credit creation when all banks increase their deposit amounts with each
other. In comparison to single banking system, credit expansion Process in multiple banking system
is more realistic.
Assume that in an economy, A, B, C, D many banks are found. Firstly as person deposits ` 1,000 as
primary deposit in bank A. In such situation, balance sheet of bank A will be as follows:

Initial Balance Sheet of Bank 'A'

Liabilities ` Assets `
Reserves
Deposits 1,000 1,000

Total 1,000 Total 1,000

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