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Question
Statement (1): The process of credit creation is directly related to the size of money multiplier.
Statement (2): If legal reserve ratio is 20%, the value of money multiplier will be 10.
Options
Both statements are true.
Both statements are false.
Statement 1 is true but Statement 2 is false.
Statement 2 is true but Statement 1 is false.
MCQ
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Solution
Statement 1 is true but Statement 2 is false.
Explanation:
- Statement (1): Credit creation is directly related to the money multiplier, as total credit is created by multiplying initial deposits by this factor. A larger multiplier naturally increases the banking system's ability to generate more credit.
- Statement (2): The money multiplier is computed as 1/LRR. With a legal reserve ratio of 20% (0.2), the multiplier equals exactly 5 (1/0.2), not 10.
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