What is a reserve?
The ratio of the reserve is the amount of money that the bank must hold at hand, as a percentage of its customers' deposits. The central bank of each country determines what the ratio for banks in this country will be. Money can be kept in the bank itself or in the closest position of the central bank. This number is sometimes called Cash Ratio (CRR). The reserve is one of the three main currency policy instruments, along with discount rates and free market operations.
Reserve requirements are calculated by multiplying the balance of the book by the bank or total deposits in the bank's books according to the ratio of the reserve. If the bank has $ 100 million (USD) in its books and the reserve ratio is 10 percent, the reserve is $ 10 million (USD). This means that the bank can lend its customers $ 90 million (USD).
As a central bank of the United States, the Federal Reserve Bank determines the ratio in the United States and may change it as an economic conditions Warrant. Since the reserve ratio affects moneyThe supply of the federal reserve bank can adjust the rate to affect changes in economic policy. Changing the ratio may have a significant impact on interest rates and inflation, so the changes are rarely made and in small increments.
The effect of a change of reserve ratio is called a multiplication effect. Reducing the ratio means that banks have more money to borrow. The borrowed money is then stored in another institution, which can then lend a higher percentage of this money, and so on, by multiplying the amount of interest that banks can earn from the original deposit. On the contrary, the increase in the ratio results in less money to lend and results in tightening money.
The importance of the reserve ratio was illustrated in the United States during a major depression. Because of the free fall on the stock market, Mkdoli people decided that their money was not safe at the bank, so they tried to download their deposits in bulk. Banks did not haveenough cash in the reserve to pay to all deposits, which resulted in a "run on the bank". The government had to enter and announce the holiday to give banks enough time to generate the required cash, and many banks that were not able to do so.