It is true that commercial Banks creates money
through credit creation. The Central Bank issues credit on basis of primary
deposits and create money many more times than the deposits. These banks lend
money for productive work which increase production, productivity and
ultimately National Income.
We know that RBI prints new, money, while on the other hand, commercial bank
multiplies money supplied by the RBI through the process of credit creation.
People deposit money in their respective bank accounts. As per the central bank
guidelines, the commercial banks are required to maintain a portion of total
deposits in form of cash reserve.
With the help of the past experiences, the commercial banks know that not all
the depositor will turn-up for withdrawal at the same day. Consequently, the
commercial banks lend the remaining portion (left after maintaining cash
reserve of the total deposits to the general public in form of credit, loans
and advances. It is the second portion of the total deposits that is responsible
for the credit creation (credit money).
The process of creation of credit money begins as soon as the commercial banks
start the lending process. The amount of the credit money increases as the bank
lend loans to more number of people in the economy. The deposit of money by the
people in the banks and the subsequent lending of loans by the commercial banks
is a never-ending process. This lending process of the commercial banks
increases the rate of investment and production in the economy, which in turn
help in improving the national income in the economy.