Find the missing figures in given example of credit creation and choose the correct option :
Round – Deposits – Loans (80%) – Reserve Ratio (20%)
I – 1000 – 800 – (i)
II – 800 – (ii) – 160
III – (iii) – 512 – (iv)
IV – 512 – 409.6 – 102.4

Question

Accepted Answer

The correct option is 3:
This question demonstrates the process of credit creation by commercial banks, assuming a Cash Reserve Ratio (CRR) of 20% (Reserve Ratio) and a Loan ratio of 80%. Credit creation begins with an initial primary deposit, and subsequent rounds of deposits are generated from the loans given out in the previous round.

Let's calculate the missing figures:

Round I:
Deposits = 1000
Loans (80%) = 800
Reserve Ratio (20%) (i) = 20% of 1000 = 200.

Round II:
Deposits = 800 (which is the loan from Round I)
Loans (80%) (ii) = 80% of 800 = 640.
Reserve Ratio (20%) = 160.

Round III:
Deposits (iii) = The loan from Round II = 640.
Loans (80%) = 512.
Reserve Ratio (20%) (iv) = 20% of 640 = 128.

Therefore, the missing figures are: (i)-200; (ii)-640; (iii)-640; (iv)-128, which corresponds to Option 3.

The incorrect option is 1:
This option incorrectly states (iii) as 580 and (iv) as 68. If (iii) were 580, it would mean the bank only lent 580 from the 800 deposit in Round II, which violates the 80% loan ratio (80% of 800 is 640). Also, if (iii) were 580, the reserve ratio (iv) must be 20% of 580, which is 116, not 68. The initial calculation for (i) is correct (200), and (ii) is correct (640), but the figures for Round III are wrong.

The incorrect option is 2:
This option incorrectly states (ii) as 580 and (iii) as 580. The loan amount in Round II, (ii), must be 80% of the deposit of 800, which is 640, not 580. Since the deposit in Round III, (iii), is based on the loan from Round II, it should also be 640, not 580. The value for (iv) is also incorrect based on the reserve ratio calculation of 20% of 580.

The incorrect option is 4:
This option incorrectly states (ii) as 580. As established, the loan amount in Round II, (ii), must be 80% of 800, which is 640. While (i), (iii), and (iv) are calculated correctly in this option, the error in (ii) invalidates this choice. In credit creation, loans determine the next round's deposits, making the correct calculation of (ii) essential for the whole process.