RESERVE REQUIREMENT. With Kate Eskra. OBJECTIVES: What will you learn?. We can classify money according to how liquid it is (M0, M1, M2). The FOMC is the organization in the U.S. who manages and makes decisions about the supply of money.
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With Kate Eskra
Money is anything that serves as:
Most people probably tend to think of bills and coins when they hear the word “money.”
If money is anything that allows to get what we want, isn’t it also checks and debit cards? What else is it?
Some forms of money, like cash, are very easy to go out and spend right now.
Others, like money in our savings count, involve a few more steps to be able to spend.
This is known as liquidity.
The narrowest definition of money,
includes only the stock of
Includes demand deposits
(checking account balances) + M0 (stock of physical currency).
Time deposits + M1
(demand deposits +
stock of physical currency).
How do banks make money?
If they simply stored it, they would not profit.
Banks make money, though, by lending out a portion of customer deposits and charging interest.
For every dollar held in the vault (reserves), there could be multiple dollars in multiple checking accounts on which customers have the ability to write checks.
As long as the demand for cash on any given day is less than the cash held in reserve, this system works fine.
Allows banks to make more loans and earn more interest.
This is essentially how banks create money.
So the Fed regulates how much of these reserves banks must hold in their vaults or at the regional Fed bank…
A portion of deposits required to be held by a bank.
The required amount of reserves that a bank must hold.
The Fed sets this requirement and it is typically quoted as a percentage.
I still have the ability to write a check or demand that cash, but someone else now has money that they did not have before.
The increase in the money supply resulting from the ability of banks to loan deposits; the value is equal to the reciprocal of the prevailing reserve ratio or 1/R, where R is the reserve ratio.
The Multiplier = 1/.50 = 2
So my initial $1,000 deposit could create up to $2,000.
The greater the supply of loanable funds, the greater the ability to increase our money supply.
If the Fed wanted to increase the money supply and make it easier for banks to make loans, they could lowerthe reserve requirement.
If the Fed wanted to decrease (contract) the money supply and make it more difficult for banks to make loans, they could raisethe reserve requirement.
Banks must report daily about their reserves.
Consumers can have confidence that their bank will have the money they can demand at any time.