DSE Economics | Monetary Policy Lesson-Prep Guide (for tutors)

DSE Economics | Monetary Policy Lesson-Prep Guide (for tutors) | Credit creation and rates

2026-11-03

Tutor lesson-prep guides · Secondary Economics

Students can chant that a rate cut stimulates the economy, then go blank when asked where the money comes from. This lesson joins the central bank decision to the money supply through credit creation, then closes with the real interest rate.

Objectives — Students can: (1) calculate maximum deposits and credit creation with the deposit multiplier; (2) state the transmission chain from interest rate to consumption and investment; (3) separate nominal from real interest and classify a policy as expansionary or contractionary.

01 Prerequisites (3-minute check)

If any of these fails, fix it before the lesson starts.

Skill	Quick check	Pass mark
Percentages	Write 20 percent as a decimal	0.2
Fractions	What is 1 divided by 0.2	5
Opportunity cost	What happens to the cost of holding cash when rates rise	It rises

02 Lesson flow (60 minutes)

Time	Stage	Tutor does	Student does
0-8 min	Diagnose	Match three central bank tools	Say which one expands
8-22 min	Credit creation	Reserve ratio 20 percent	Multiplier 5
22-36 min	Transmission	Consumption, investment, exchange rate	Write three links
36-48 min	Inflation	Nominal versus real	5 minus 3 equals 2
48-56 min	Policy call	Four scenario questions	Name expansion or contraction
56-60 min	Exit check	Three questions collected	Independent

03 Teaching script (read it out)

Scene 1: Act one: credit creation, the money is created

Reserve ratio 20 percent gives a multiplier of 1 divided by 0.20, that is 5. An initial deposit of 1000 supports maximum deposits of 5000 and credit creation of 4000.
The chain: deposit 1000, bank keeps 200 as reserves, lends 800, the borrower deposits elsewhere, and the cycle repeats.
Make them answer: write round one and round two and watch the total converge on 5000.
Trap: using 1 divided by (1 minus rr), or assuming banks lend every dollar.

Tutor move: ask why a bank cannot lend everything; no answer means reteach reserves.

Scene 2: Act two: the transmission chain has three links

Rate cut, then market rates fall, then borrowing costs fall and savings returns fall, then consumption and investment rise, then aggregate demand rises, then prices and output rise.
Make them answer: order the six arrows aloud; any swap means start again.
Trap: jumping from a rate cut straight to higher GDP.

Tutor move: six cards to sequence, then one justification per card.

Scene 3: Act three: nominal versus real, inflation is a hidden tax

Nominal 5 percent with inflation at 3 percent leaves a real rate of about 2 percent. If inflation reaches 5 percent the real return is zero, which is why rate cuts lose power in high inflation.
Classify: cut rates, lower reserve ratio, buy bonds are expansionary; raise rates, raise the ratio, sell bonds are contractionary.
Trap: calling a rate cut government spending, which is fiscal policy.

Tutor move: two columns on the board, monetary and fiscal, every tool must be pointed at one.

04 Question types and worked steps

Type	Example	Steps	Answer
Calculate	Multiplier and credit creation	Divide then subtract the initial deposit	Name the reserve ratio
Explain	Transmission chain	Cost, return, aggregate demand	At least three links
Data	Real interest rate	Nominal minus inflation	State the period
Judge	Expansionary or contractionary	Tool and direction	Add the effect

Sanity check (teach this): Every number must trace to a definition: multiplier 5, maximum deposits 5000, credit creation 4000 (not the same as maximum deposits). The real rate is 2 percent, never 15 and never inflation subtracted twice. Classify policy by one test only: which tool.

05 Independent practice (3 questions)

Question	Answer	What to watch
Reserve ratio 20 percent, the multiplier	5	1 divided by 0.2
Initial deposit 1000, maximum deposits	5000	Multiply by the multiplier
Nominal 5 percent, inflation 3 percent, real rate	2 percent	Subtract

06 Common mistakes and what to say

Mistake	Student writes	Say this
Wrong multiplier	Writing 1 over (1 minus 0.2)	“The denominator is the reserve ratio itself.”
Lending everything	Assuming no reserves kept	“How much must the bank keep for withdrawals?”
Skipped links	Rate cut straight to GDP	“Where did the three middle steps go?”
Policy mix-up	Rate cut called fiscal	“Who uses this tool, the central bank or the government?”

07 Homework (paper, section and question numbers)

Credit creation calculations (in-house) — Questions 1-3: multiplier and credit creation
Monetary policy scenarios (in-house) — Questions 4-6: tool classification and transmission

08 Exit check (last 5 minutes)

Question	Answer	Decision
The multiplier at a 20 percent reserve ratio	5	Wrong: reteach 1 over rr
Real rate with nominal 5 and inflation 3	2 percent	Wrong: reteach subtraction
Is buying bonds expansionary or contractionary	Expansionary	Wrong: reteach the three tools

09 Tutor FAQ

Why is the multiplier only an upper bound

It assumes every loan returns to the banking system; cash leaks and excess reserves reduce it.

How do rate rises affect the exchange rate

Higher returns attract capital inflows, raising demand for the currency.

Why target about 2 percent inflation

Too low risks deflation, too high erodes purchasing power; mild inflation helps relative prices adjust.

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A TutorZone lesson-prep guide. Written by the TutorZone team; questions and lesson flow are original and are not taken from any school or publisher material.