What are the limitations of credit creation?Theoretically, the banking system can create unlimited amount of credit through expansion ofdeposits. However, in reality, the powers of banks to create multiple credit or deposits are subjectto a number of limitations as explained below:1. Amount of Cash:The extent of credit creation primarily depends upon the amount of cash possessed by the banks.Larger the amount of cash with the banking system, greater will be the credit creation, and viceversa.n the words of !rowther, "The bankers# cash is the level with which the whole giganticsystem is manipulated." Thus, the power to create credit is limited by the bank#s cash.2. Cash-Reserve Ratio:The si$e of credit multiplier is inversely related to the cash%reserve ratio. The higher the cash%reserve ratio, the smaller will be the volume of credit creation and vice versa.3. Leakages:The actual credit creation by the banking system may be considerably smaller than the potentialcredit creation due to certain leakages. There are at least two such leakages in the credit creationprocess:i! "#cess Reserves$The banks may not be willing to utilise their surplus funds for granting loans and may decide tomaintain excess reserves. &uch a situation arises(a)when there are fear of significant rise infuture interest rates or(b)when the economy is heading towards a recession. The greater theexcess reserves, the smaller the credit multiplier.ii! Currenc% &rains:The credit creation multiplier mechanism assumes that the amounts of loans granted by the banksreturn to them by way of new deposits. However, the public may not keep the whole amount ofloans in the banks and may withdraw some cash to hold it with themselves. This cash withdrawalor currency drain reduces the power of the banks to create credit.'. Availa(ilit% of )orro*ers:'ankscreatecredit bymeansofloansandadvances. Thereforetheextent ofcredit creationdependsontheavailabilityofborrowers. f therearenoborrowers, therewill benocreditcreation.+. Availa(ilit% of ,ecurities:'ank loans are granted against securities. n the words of !rowther, "the bank does not createmoney out of thin air( it transmutes other forms of wealth into money." Thus, the power of thebank to turn other assets into money (i.e. to create credit) is restricted by the availability of goodsecurities.-. Credit .olic% of /ther )anks:*ll banks may not adopt the same credit policy. f some banks decide not to utilise their fullcapacity for credit creation and keep large cash reserves, the credit creation in the country will belimited to that extent.0. )anking 1a(its:+evelopment of banking system and the banking habits of the people also influence the extent ofcredit creation. f people prefer to make transactions through cash and not by che,ues, the bankswill be left with a smaller cash and there will be lesser credit creation. 'anking habits, in turn,depend upon the development of banking system. n the developed economics due to the largeexpansion of banking facilities, the banking habits are more conductive to credit creation than indeveloping economics.2. )usiness Conditions:!redit creation is further limited by the nature of business conditions. +uring depression, whendue to low profit expectations businessmen do not come forward to borrow from banks, creditcreation will be very small. -n the other hand, during the period of business prosperity, the profitexpectations are high, the businessmen approach the banks for loans and there will be greatercredit creation. Hence credit creationwill be smaller duringdepressionandlarger duringbusiness prosperity.3. 4onetar% .olic%:The extent of credit creation largely depends upon the monetary policy of the central bank of thecountry. The central bank has the power to influence the money supply in the country. t can usevarious methods of credit control to influence the banks to expand and contract credit.