post 5
Dated6/5/2020
Money Multiplier
snippet The RBI has the power to control the amount of money you have in your pocket, Read till end to find out how»

The Reserve Bank Of INDIA (RBI) holds a meeting after every two months to announce it’s regulating policy called Monetry Policy. Monetry Policy is a tool of RBI to control inflation and ensure a healthy growth of GDP.
To understand this we need to know about the Need of money and types of money:
People need liquid money for 4 motives:

  1. Transaction Motive :to Purchase goods and services of daily needs
  2. Precautionary motive: To avoid sudden emergency cash crunch
  3. Impulsive purchase: To purchase something out of sudden
  4. Speculative Motive: To speculate on prices and wait for price to lower and then purchase

So there is demand of money but with demand there also exist some reserves or places where money is stored: These are classified as follows:

  1. A->Currency/cash
  2. B->Demand Deposit/(deposit where we can withdraw anytime on demand i.e. Savings account or Liquid funds
  3. C->Fixed assets/Time deposits(We can not withdraw money immediately)

here A and B form a class of money called M1(narrow money) this is the most liquid form of money that flows in market.
the savings deposits + M1 =M2 The fixed deposits in when added to M1 becomes M 3(broad money)

Hence The Job of RBI is to maintain a delicate balance between these all M1 M2& 3. This balance ensure that the flow of money in market is regulated and inflation is under controll
M0 is called the High Powered money. Isn’t all money same?? my ten rupees and your ten rupees?? aren’t they same?
maybe yes maybe no :)
there comes a role of Money Multiplier
better understood by this hypothetical scenerio
but before it there’s a term called
CRR (Cash reserve ratio) this is a basic ratio which is defined ny the reserve bank of India for banks to maintain a percentage of amount they get as deposits to avoid any future cash runs, where people run to bank for cash.Because if a bank gives loan of each penny that it recieves as deposit then the regular functioning of bank would stop, or the bank may crash. Hence maintaining CRR is strictly important..
suppose in a banking system RBI release a 100 rupees but the CRR stands at 10% then the money that is realised in market get’s multiplied by 100/CRR , so in our case the money that reaches market is 1000 whereas RBI released only 100 rupees ….HOW???

Imagine RBI released 100 rupees in market through a bank,Banks has to keep 10 as CRR but release loan of 90 to me, I purchase a car from dealer - Bholla Singh and he goes to his bank where he deposits 90 he recieved from me. Now the Bholla Singh’s bank keeps 10%of 90 as CRR i.e 9 and releases 81 as loan. this cycle continues and a amount of 1000 is realised in Market whereas RBI released only 100. Also note that the original 100 end up lying in CRR
In a functional Economy the money multiplier must always be more than 1
there are many leaks in this system in practical life but it gives us a feel that how sensitive the management of money is….
..Keep reading this daily and you’ll be money indepenent by the end of this lockdown…
Tommorow We will start with basic ratioes and terms of Monetry Policy….
Thanks for Reading