Suppose the banking system does NOT hold excess reserves and the reserve ratio is 20%. If Sam deposits $500 cash in his checking account, the banking system can increase the money supply by an additional:

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Quizplus · Accepted Answer

The reserve ratio is 20%, meaning banks must keep 20% of deposits as reserves. For a $500 deposit, $100 is kept as reserves, and $400 can be loaned out. This $400 can be re-deposited and loaned out repeatedly, creating a money multiplier effect. The money multiplier is 1/reserve ratio = 1/0.2 = 5. Therefore, the banking system can increase the money supply by $400 * 5 = $2,000.

Suppose the Banking System Does NOT Hold Excess Reserves and the Reserve