Monetary Policy of the Central Bank | ICSE Class 10 Economics Notes

This note covers the monetary policy of the central bank for ICSE Class 10 Economics: what monetary policy is and who conducts it, the difference between quantitative and qualitative credit control, the quantitative tools (Bank Rate, Open Market Operations, Cash Reserve Ratio and Statutory Liquidity Ratio), the qualitative tools (margin requirements, credit rationing and moral suasion), how each tool works in inflation and deflation, and worked examples, comparison tables, exam-style questions and a glossary.

What is monetary policy and who conducts it?

Monetary policy is the policy of the central bank of a country by which it controls the supply of money and credit in the economy. Its purpose is to keep prices stable, encourage growth and keep the banking system sound.

In India the central bank is the Reserve Bank of India (RBI). India got its central bank in 1935. Almost every country has one central bank.

The RBI issues the currency of the country, acts as banker to the government, is the custodian of the foreign exchange reserves and acts as a bank to the banking system.

Definition: Monetary policy is the deliberate control of the money supply and the cost and availability of credit by the central bank of a country, in order to achieve objectives such as price stability and economic growth.

The RBI controls the money supply of the country through various methods, like bank rate, open market operations and variations in reserve ratios. These methods are called the instruments of monetary policy.

They are grouped into two kinds: quantitative tools, which change the volume or extent of money supply, and qualitative tools, which change the direction of credit, that is, who gets credit and for what.

The RBI is also called the lender of last resort. This role, of being ready to lend to banks at all times, is an important function of the central bank.

When commercial banks need more funds in order to create more credit, they may go to the market for such funds or go to the central bank.

Who decides the policy rate in India today?

Since 2016 the RBI's policy repo rate has been decided by a Monetary Policy Committee (MPC), set up under an amendment to the Reserve Bank of India Act, 1934.

The MPC has six members: three from the RBI, with the Governor as chairperson, and three outside experts appointed by the Government of India. Each member has one vote, and the Governor has a casting vote if the votes are tied.

The MPC's goal is to keep consumer price inflation at 4 per cent, within a band of 2 to 6 per cent. The tools described below are the means by which the RBI works towards that goal.

Monetary policy matters because money and credit touch every transaction. Banks accept deposits from the public and lend out part of these funds to those who want to borrow.

The interest rate paid by the banks to depositors is lower than the rate charged from the borrowers. This difference between the two rates, called the spread, is the profit of the bank.

Two simple relationships sum up the arithmetic of the policy. The first defines the money supply; the second links the money multiplier to the reserve ratio.

Money supply = Currency + Deposits

Money multiplier = 1 ÷ Reserve ratio

Here currency means notes and coins held by the public, deposits means the balances the public keeps with commercial banks, and the reserve ratio is the share of deposits that banks must hold back as reserves instead of lending.

Worked example 1. In an economy with no currency in circulation, a customer deposits ₹100 in a bank and the bank keeps the whole amount as reserves with the RBI. The reserve ratio is 20 per cent, and the bank goes on lending until its reserves of ₹100 are exactly 20 per cent of its deposits. Calculate the money supply at the start, the money multiplier, the total deposits, the total loans and the final money supply.

Answer: At the start, money supply = currency + deposits = ₹0 + ₹100 = ₹100. Money multiplier = 1 ÷ 0.20 = 5, so total deposits = 5 × ₹100 = ₹500. Loans = deposits − reserves = ₹500 − ₹100 = ₹400. Final money supply = ₹0 + ₹500 = ₹500.

The multiplier shows why a small change in the reserve ratio can change money supply by a large amount.

What are quantitative and qualitative credit control measures?

The tools used by the central bank to control money supply can be quantitative or qualitative. The two groups work in different ways and are often used together.

Quantitative tools control the extent of money supply by changing the CRR, or bank rate or open market operations. They act on the total volume of credit in the economy.

They affect all banks and all borrowers alike, because they change the cost or the quantity of funds available to the banking system as a whole.

Qualitative tools include persuasion by the central bank in order to make commercial banks discourage or encourage lending, which is done through moral suasion, margin requirement, etc.

They act on the direction of credit, that is, on the purpose for which credit is given and the category of borrower who receives it.

A simple way to remember the difference is that quantitative tools work on the size of the credit pie, while qualitative tools work on the slices of that pie. Both are part of the same policy and are chosen according to whether the economy is facing inflation or a slowdown.

How does the Bank Rate work as a credit control tool?

The RBI can influence money supply by changing the rate at which it gives loans to the commercial banks. This rate is called the Bank Rate in India. It is the rate of interest at which the central bank lends to commercial banks, usually against eligible securities.

Definition: Bank Rate is the rate of interest at which the Reserve Bank of India lends funds to commercial banks, usually against eligible securities, and it is a quantitative instrument of monetary policy.

How does a change in the Bank Rate reach borrowers?

By increasing the bank rate, loans taken by commercial banks become more expensive. This reduces the reserves held by the commercial bank and hence decreases money supply. A fall in the bank rate can increase the money supply. The chain of effects runs as follows:

1. The RBI raises the Bank Rate.
2. Borrowing from the RBI becomes costlier for commercial banks.
3. Commercial banks borrow less from the RBI and their reserves fall.
4. Banks lend less to the public, or lend at higher interest rates.
5. Credit and money supply in the economy contract.

During inflation the RBI raises the Bank Rate, making credit dearer and reducing money supply. During deflation or a slowdown it lowers the Bank Rate, making credit cheaper and encouraging borrowing and spending.

Draw the rate of interest on the vertical axis and the amount of credit borrowed on the horizontal axis. The demand curve for credit slopes downwards from left to right, because fewer loans are wanted when interest is dearer.

When the RBI raises the Bank Rate, banks raise their lending rate from r1 to r2. The economy moves up along the curve and the credit borrowed falls from Q1 to Q2. A cut in the Bank Rate gives a movement down the curve and more credit.

The extra interest a bank pays can be worked out directly from the rate and the amount borrowed.

Interest = Principal × Rate ÷ 100

Here principal is the amount borrowed and rate is the rate of interest per cent per year.

Worked example 2. A commercial bank borrows ₹50,00,000 from the RBI for one year. The Bank Rate is raised from 6 per cent to 8 per cent. Calculate the extra interest the bank must pay because of the rise.

Answer: Interest at 6 per cent = 6 ÷ 100 × ₹50,00,000 = ₹3,00,000. Interest at 8 per cent = 8 ÷ 100 × ₹50,00,000 = ₹4,00,000. Extra interest = ₹4,00,000 − ₹3,00,000 = ₹1,00,000.

The bank's cost of funds rises by ₹1,00,000, so it will lend less or charge borrowers more; money supply tends to fall.

How do Open Market Operations work?

Open Market Operations refers to the buying and selling of bonds issued by the Government in the open market. This purchase and sale is entrusted to the central bank on behalf of the Government.

Definition: Open Market Operations are the purchase and sale of government securities by the central bank in the open market, in order to increase or decrease the reserves of commercial banks and hence the money supply.

When the RBI buys a Government bond in the open market, it pays for it by giving a cheque. This cheque increases the total amount of reserves in the economy and thus increases the money supply.

Selling of a bond by the RBI, to private individuals or institutions, leads to a reduction in the quantity of reserves and hence the money supply.

What are outright and repo operations?

There are two types of open market operations: outright and repo. Outright open market operations are permanent in nature: when the central bank buys these securities, thus injecting money into the system, it is without any promise to sell them later.

Similarly, when the central bank sells these securities, thus withdrawing money from the system, it is without any promise to buy them later. As a result, the injection or absorption of money is of a permanent nature.

In the second type, when the central bank buys the security, the agreement of purchase also has a specification about the date and price of resale of this security. This type of agreement is called a repurchase agreement or repo.

The interest rate at which the money is lent in this way is called the repo rate.

Similarly, instead of an outright sale of securities, the central bank may sell the securities through an agreement which has a specification about the date and price at which it will be repurchased.

This is called a reverse repurchase agreement or reverse repo, and the rate at which money is withdrawn in this manner is called the reverse repo rate.

The RBI conducts repo and reverse repo operations at various maturities: overnight, 7-day, 14-day, etc. This type of operation has now become the main tool of monetary policy of the RBI.

What is the Cash Reserve Ratio (CRR)?

The RBI decides a certain percentage of deposits which every bank must keep as reserves. This is done to ensure that no bank is over lending. This is a legal requirement and is binding on the banks.

It is called the Required Reserve Ratio, the Reserve Ratio or the Cash Reserve Ratio (CRR).

Definition: Cash Reserve Ratio is the percentage of its total deposits which a commercial bank must keep as cash reserves with the central bank, and it acts as a legal limit on the amount of credit that banks can create.

Reserves are the deposits which commercial banks keep with the RBI, together with the cash they hold themselves. The CRR part must be kept as a cash balance with the RBI, while the SLR part can be held in liquid assets such as government bonds and treasury bills.

Reserves are similar to the deposits we keep with banks. We keep deposits and these deposits are our assets, which can be withdrawn by us.

Similarly, commercial banks such as the State Bank of India (SBI), HDFC Bank and ICICI Bank keep deposits with the RBI, and these are called reserves.

If the RBI raises the CRR, banks must keep a larger share of deposits idle as reserves, so they can lend less. If the RBI lowers the CRR, banks can lend more.

For example, with deposits of ₹100 and a CRR of 20 per cent, the bank must keep ₹20 as cash reserves. Only the remaining amount of deposits, that is ₹80, can be used to give loans.

How does the CRR limit credit creation?

The statutory requirement of the reserve ratio acts as a limit to the amount of credit that banks can create.

The limit works through the money multiplier. The money multiplier is the number by which reserves are multiplied to give total deposits. It is the reciprocal of the reserve ratio.

Money multiplier = 1 ÷ Reserve ratio

With a CRR of 20 per cent, the money multiplier is 1 ÷ 0.20 = 5. Thus reserves of ₹100 create deposits of ₹(5 × 100) = ₹500.

If the RBI increases the reserve ratio to 25 per cent, the multiplier becomes 1 ÷ 0.25 = 4, and ₹100 in reserves can support deposits of only ₹400. The banking system would then be able to loan ₹300 only.

It would have to call back some loans to meet the increased reserve requirements. Hence money supply would fall.

Draw the reserve ratio in per cent on the horizontal axis and the money multiplier on the vertical axis. Plot the points (10, 10), (20, 5), (25, 4) and (50, 2) and join them with a smooth curve.

The curve slopes downwards and becomes flatter as the ratio rises, because the multiplier is 1 ÷ reserve ratio. A rise in the CRR moves the banking system down the curve to a smaller multiplier and less credit.

The reserves a bank must keep follow directly from the ratio and the size of its deposits.

Required reserves = CRR ÷ 100 × Deposits

Here CRR is the cash reserve ratio in per cent and deposits is the total deposit liability of the bank.

Worked example 3. A bank has total deposits of ₹8,00,000. The RBI raises the CRR from 10 per cent to 12 per cent. Calculate the cash reserves the bank must keep before and after the change, and the fall in its lending capacity.

Answer: Reserves at 10 per cent = 10 ÷ 100 × ₹8,00,000 = ₹80,000. Reserves at 12 per cent = 12 ÷ 100 × ₹8,00,000 = ₹96,000. Extra reserves locked up = ₹96,000 − ₹80,000 = ₹16,000.

The bank's lending capacity falls by ₹16,000, so credit and money supply in the economy contract.

What is the Statutory Liquidity Ratio (SLR)?

Apart from the CRR, banks are also required to keep some reserves in liquid form in the short term. This ratio is called the Statutory Liquidity Ratio or SLR.

Definition: Statutory Liquidity Ratio is the minimum percentage of total deposits which a commercial bank must hold in liquid assets such as cash, gold or approved government securities, in addition to the cash reserve ratio.

The word "statutory" means that the ratio is fixed by law and is binding on every bank. The word "liquidity" means that the assets held must be easily convertible into cash.

SLR is held by the bank itself, whereas CRR is kept with the RBI. Both reduce the funds available for lending, and so both act as limits on credit creation.

When the RBI raises the SLR, banks must hold more of their deposits in liquid assets and can lend less, so money supply falls. When the RBI lowers the SLR, banks can lend more, so money supply rises. During inflation the RBI raises the SLR; during deflation it lowers it.

What are margin requirements, credit rationing and moral suasion?

These are the qualitative or selective credit control measures. They do not change the total volume of credit so much as its direction.

Margin requirements

The margin requirement is the minimum part of the value of a loan which the borrower must provide from his own funds, while the bank lends only the remaining part.

For example, if a bank lends against goods worth ₹1,00,000 and asks for a margin of 25 per cent, the borrower must put in ₹25,000 of his own and can borrow only ₹75,000.

By raising the margin, the RBI makes borrowing against a given security more difficult and reduces credit for that purpose. By lowering the margin, it makes such borrowing easier.

The loan a borrower can obtain is the value of the security less the margin the borrower must provide himself.

Loan = Value of security − Margin

Here the margin is the borrower's own share of the value, worked out as the margin rate applied to the value of the security.

Credit rationing

Credit rationing means fixing limits on the amount of credit which banks may give for particular purposes or to particular borrowers.

The RBI may set a ceiling on loans against certain commodities, or direct banks to reserve a share of their lending for priority sectors such as agriculture, micro and small enterprises (the MSME sector), education and housing. Under the RBI's priority sector rules, a domestic commercial bank must direct 40 per cent of its adjusted net bank credit to these sectors.

Credit is thus rationed, that is, shared out by rule rather than by the market alone.

Moral suasion

Moral suasion is the persuasion by the central bank, through advice, requests and meetings, to make commercial banks discourage or encourage lending in particular directions.

It relies on the goodwill and cooperation of the banks rather than on a legal penalty.

For example, the RBI may ask banks to go slow on lending against speculative holdings of a commodity, or to lend more generously to small borrowers.

Worked example 4. A trader pledges goods worth ₹2,00,000 with a bank to obtain a loan. The RBI raises the margin requirement on such loans from 20 per cent to 30 per cent. Calculate the loan the trader can obtain before and after the change, and the fall in credit.

Answer: Loan at 20 per cent margin = ₹2,00,000 − (20 ÷ 100 × ₹2,00,000) = ₹2,00,000 − ₹40,000 = ₹1,60,000.

Loan at 30 per cent margin = ₹2,00,000 − (30 ÷ 100 × ₹2,00,000) = ₹2,00,000 − ₹60,000 = ₹1,40,000. Fall in credit = ₹1,60,000 − ₹1,40,000 = ₹20,000. The higher margin curbs borrowing against this commodity.

Worked example 5. A bank has total deposits of ₹10,00,000. The CRR is 8 per cent and the SLR is 20 per cent. Calculate the reserves the bank must keep under each ratio and the maximum amount it can lend.

Answer: CRR reserves = 8 ÷ 100 × ₹10,00,000 = ₹80,000. SLR reserves = 20 ÷ 100 × ₹10,00,000 = ₹2,00,000. Total locked-up funds = ₹80,000 + ₹2,00,000 = ₹2,80,000. Maximum lending = ₹10,00,000 − ₹2,80,000 = ₹7,20,000.

The two reserve ratios together decide how much of the deposits can be lent.

How does the central bank use these tools against inflation and deflation?

The same tools are used in opposite directions according to the state of the economy. During inflation, when prices are rising and money supply is too large, the RBI follows a dear money policy or contractionary policy.

During deflation, when prices are falling and money supply is too small, it follows a cheap money policy or expansionary policy.

The logic is the same in every case. A dear money policy makes credit costlier and scarcer, so borrowing, spending and investment fall and the rise in prices is checked.

A cheap money policy makes credit cheaper and more plentiful, so borrowing, spending and investment rise and the fall in prices is checked.

Worked example 6. The RBI wishes to reduce money supply because prices are rising fast. It sells government bonds worth ₹5,00,00,000 in the open market and raises the CRR from 5 per cent to 6 per cent.

A bank holds deposits of ₹2,00,00,000. Explain the effect of each action on this bank.

Answer: Selling bonds worth ₹5,00,00,000 withdraws that much purchasing power from the buyers and reduces the reserves of the banking system, so money supply falls.

For the bank, reserves at 5 per cent = 5 ÷ 100 × ₹2,00,00,000 = ₹10,00,000; at 6 per cent = 6 ÷ 100 × ₹2,00,00,000 = ₹12,00,000. Extra reserves locked up = ₹2,00,000, so lending falls by ₹2,00,000. Both actions contract credit, which is the aim during inflation.

Advantages and limitations of monetary policy

Merits of monetary policy

• It is flexible: the central bank can change the Bank Rate, CRR or SLR quickly as conditions change.
• It acts on the whole banking system at once, so its effect on money supply is broad.
• It does not need new legislation or a large administrative set-up, because the central bank already supervises the banks.
• Qualitative tools allow credit to be directed towards priority sectors such as agriculture and small industry.
• It can be used to keep the value of money stable and so protect savers and fixed-income earners.

Limitations of monetary policy

• Its success depends on how banks and borrowers respond; if banks hold excess reserves and do not lend, a cheap money policy may not raise credit.
• It works mainly through the banking system, so it has little direct effect on borrowing from informal lenders such as moneylenders.
• There may be a time lag between the action of the central bank and its effect on prices and output.
• Moral suasion depends on the goodwill of banks and is not legally binding.
• In a deep depression, even very low interest rates may fail to revive borrowing, a situation described as a liquidity trap.

Note: A liquidity trap is a situation in which the market rate of interest is already so low that everybody expects it to rise in future, so nobody wishes to hold bonds and everyone holds money instead. Additional money then does not lower the rate of interest further.

Glossary

• Monetary policy: The policy of the central bank by which it controls the supply of money and credit in the economy.
• Central bank: The apex bank of a country, which issues currency and controls the banking system; in India, the Reserve Bank of India.
• Bank Rate: The rate of interest at which the central bank lends funds to commercial banks against eligible securities.
• Open Market Operations: The buying and selling of government securities by the central bank in the open market.
• Cash Reserve Ratio: The percentage of total deposits which a bank must keep as cash reserves with the central bank.
• Statutory Liquidity Ratio: The minimum percentage of deposits which a bank must hold in liquid assets such as cash, gold or approved securities.
• Margin requirement: The minimum part of the value of a loan which the borrower must provide from his own funds.
• Credit rationing: Fixing limits on the amount of credit which banks may give for particular purposes or borrowers.
• Moral suasion: Persuasion by the central bank, through advice and requests, to make banks lend more or less in particular directions.
• Repo rate: The interest rate at which the central bank lends money to banks under a repurchase agreement.
• Reverse repo rate: The rate at which the central bank withdraws money from banks under a reverse repurchase agreement.
• Money multiplier: The number by which reserves are multiplied to give total deposits; it is the reciprocal of the reserve ratio.
• Lender of last resort: The role of the central bank of being ready to lend to banks at all times.
• Liquidity trap: A situation in which the interest rate is so low that everyone holds money and additional money does not lower the rate further.

Common errors and misconceptions

• Misconception: The central bank lends directly to the public. Correct: The RBI lends to commercial banks, which in turn lend to the public.
• Misconception: CRR and SLR are the same thing. Correct: CRR is kept as cash with the RBI, while SLR is held by the bank itself in liquid assets such as cash, gold or approved securities.
• Misconception: Raising the Bank Rate increases money supply. Correct: Raising the Bank Rate makes borrowing by banks costlier and decreases money supply.
• Misconception: Buying government bonds reduces money supply. Correct: When the RBI buys bonds it pays by cheque, which raises reserves and increases money supply.
• Misconception: Moral suasion is a legal requirement. Correct: It is persuasion through advice and requests, and it relies on the goodwill of banks.
• Misconception: A higher CRR lets banks lend more. Correct: A higher CRR locks up more deposits as reserves, so banks can lend less.
• Misconception: Qualitative tools change the total volume of credit. Correct: They change the direction and purpose of credit, not mainly its total volume.

Exam-style questions with model answers

Q1. Define Bank Rate. [2 marks]

1. Bank Rate is the rate of interest at which the central bank, the Reserve Bank of India, lends funds to commercial banks.
2. It is a quantitative instrument of monetary policy: a rise in the Bank Rate makes credit costlier and reduces money supply, while a fall makes credit cheaper and increases money supply.

Q2. State any two qualitative credit control measures. [2 marks]

1. Margin requirement: the minimum part of the value of a loan which the borrower must provide from his own funds.
2. Moral suasion: persuasion by the central bank, through advice and requests, to make banks lend more or less in particular directions.

Q3. Distinguish between the Cash Reserve Ratio and the Statutory Liquidity Ratio. [4 marks]

1. CRR is the percentage of total deposits which a bank must keep as cash reserves with the RBI.
2. SLR is the percentage of deposits which a bank must keep in liquid form in the short term, such as cash, gold or approved government securities.
3. CRR is held with the central bank, while SLR is held by the bank itself.
4. Both are legal requirements and both reduce the funds available for lending, so a rise in either reduces credit creation.

Q4. Explain how Open Market Operations are used to control money supply. [4 marks]

1. Open Market Operations refers to the buying and selling of government bonds by the central bank in the open market on behalf of the government.
2. When the RBI buys a bond, it pays by cheque, which increases the total reserves in the economy and thus increases money supply.
3. When the RBI sells a bond, reserves fall and money supply decreases.
4. During inflation the RBI sells bonds, and during deflation it buys bonds; repo and reverse repo operations are short-term forms of these operations.

Q5. A bank has deposits of ₹5,00,000 and the CRR is 10 per cent. The RBI raises the CRR to 15 per cent. Calculate the reserves before and after the change and the fall in lending capacity. [3 marks]

1. Reserves at 10 per cent = 10 ÷ 100 × ₹5,00,000 = ₹50,000.
2. Reserves at 15 per cent = 15 ÷ 100 × ₹5,00,000 = ₹75,000.
3. Fall in lending capacity = ₹75,000 − ₹50,000 = ₹25,000, so credit and money supply contract.

Q6. Explain the quantitative instruments of monetary policy of the RBI. [5 marks]

1. Bank Rate: the rate at which the RBI lends to commercial banks; raising it makes credit costlier and reduces money supply, while lowering it increases money supply.
2. Open Market Operations: the buying and selling of government bonds; buying increases reserves and money supply, selling reduces them.
3. Cash Reserve Ratio: the percentage of deposits kept as cash with the RBI; a rise reduces lending and money supply, a fall increases them.
4. Statutory Liquidity Ratio: the percentage of deposits kept in liquid assets by the bank itself; a rise reduces lending and a fall increases it.
5. These tools act on the total volume of credit in the economy and are used in opposite directions during inflation and deflation.

Q7. Explain margin requirements, credit rationing and moral suasion as qualitative measures. [5 marks]

1. Margin requirement is the minimum part of the value of a loan which the borrower must provide from his own funds; raising it makes borrowing against a security harder and curbs credit for that purpose.
2. Credit rationing means fixing limits on the amount of credit which banks may give for particular purposes or to particular borrowers, so credit is shared out by rule.
3. Moral suasion is persuasion by the central bank, through advice, requests and meetings, to make banks discourage or encourage lending in particular directions.
4. These measures act on the direction and purpose of credit rather than on its total volume.
5. They are selective: they can direct credit towards priority sectors such as agriculture and small industry, or away from speculative holdings.

Q8. Why is the RBI called the lender of last resort? [2 marks]

1. The RBI is ready to lend to commercial banks at all times when they need funds.
2. Because it provides funds through various instruments when banks cannot get them elsewhere, it is said to be the lender of last resort.

Key takeaways

• Monetary policy is the control of money supply and credit by the central bank, which in India is the Reserve Bank of India.
• Quantitative tools change the volume of credit; qualitative tools change its direction and purpose.
• The four main quantitative tools are the Bank Rate, Open Market Operations, CRR and SLR.
• Raising the Bank Rate, CRR or SLR reduces credit; lowering them increases credit.
• When the RBI buys government bonds, money supply rises; when it sells them, money supply falls.
• Margin requirements, credit rationing and moral suasion are selective tools that guide who receives credit.
• During inflation the RBI follows a dear money policy; during deflation it follows a cheap money policy.
• The money multiplier equals 1 divided by the reserve ratio, so a higher CRR means a smaller multiplier.

Test yourself

What is the Bank Rate?

The rate of interest at which the central bank lends funds to commercial banks. Raising it makes credit costlier and reduces money supply.

What does Open Market Operations mean?

The buying and selling of government bonds by the central bank in the open market. Buying increases reserves and money supply; selling reduces them.

What is the Cash Reserve Ratio?

The percentage of total deposits which a commercial bank must keep as cash reserves with the RBI. It acts as a legal limit on credit creation.

What is the Statutory Liquidity Ratio?

The minimum percentage of deposits which a bank must hold in liquid assets such as cash, gold or approved government securities, in addition to the CRR.

What is moral suasion?

Persuasion by the central bank, through advice and requests, to make commercial banks discourage or encourage lending in particular directions. It relies on goodwill, not law.

What is a margin requirement?

The minimum part of the value of a loan which the borrower must provide from his own funds. Raising it makes borrowing against a security harder.

What is the money multiplier if the CRR is 25 per cent?

The money multiplier is 1 ÷ 0.25 = 4. So reserves of ₹100 can support deposits of ₹400.

Which policy does the RBI follow during inflation?

A dear money policy: it raises the Bank Rate, CRR and SLR and sells government bonds, so credit becomes costlier and scarcer and money supply falls.