If the required reserve ratio is 0.25 and the First National Bank holds $10 million in demand deposits and $5 million in reserves,how much more in demand deposits is this bank capable of creating?

Question

Quizplus · Accepted Answer

The bank is currently holding 25% of its demand deposits in reserves (since the required reserve ratio is 0.25). The total amount of reserves required is 0.25 x $10 million = $2.5 million. The bank is currently holding $5 million in reserves, so it has excess reserves of $5 million - $2.5 million = $2.5 million. The maximum amount of new demand deposits the bank can create is equal to the excess reserves divided by the reserve ratio. This is equal to $2.5 million / 0.25 = $10 million. Therefore, the bank is capable of creating an additional $10 million in demand deposits, which is answer choice D.

If the Required Reserve Ratio Is 0