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Difficulty: EasyCommercial Banks: Functions, Services, and Credit Creation

A commercial banking system generated a maximum total credit expansion of N1,000,000\text{N}1,000,000 from a fresh initial cash deposit of N200,000\text{N}200,000. What is the mandatory Cash Reserve Ratio (CRR) set by the central bank, expressed as a percentage?

Answer: 20 %

Answer

The mandatory Cash Reserve Ratio is 20%.
Total credit creation is given by the formula Total Credit=Initial Deposit×1CRR\text{Total Credit} = \text{Initial Deposit} \times \frac{1}{\text{CRR}}. Rearranging to solve for CRR gives CRR=Initial DepositTotal Credit×100%=200,0001,000,000×100%=20%\text{CRR} = \frac{\text{Initial Deposit}}{\text{Total Credit}} \times 100\% = \frac{200,000}{1,000,000} \times 100\% = 20\%.

Step-by-Step Solution

1
Calculate the Credit Multiplier
Credit Multiplier = 5
Divide the total credit expansion (N1,000,000) by the initial cash deposit (N200,000).
2
Calculate the Cash Reserve Ratio
Cash Reserve Ratio = 20%
The Cash Reserve Ratio is the reciprocal of the credit multiplier, calculated as (1 / 5) × 100%.

Key Concept

Calculation of Cash Reserve Ratio from Initial Deposit and Total Credit Expansion
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Topics

Commercial Banks: Functions, Services, and Credit Creation

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