Suppose a bank gets a new deposit of $100 cash and it has a 20% required reserve ratio. If the bank lends the maximum amount of money allowed, then the checkable deposits (including the original deposit) increase by:

Question

Quizplus · Accepted Answer

The bank must keep 20% of the $100 deposit as reserves, which is $20. It can lend out the remaining $80. This $80, when deposited in another bank, will have 20% kept as reserves ($16) and $64 lent out, and so on. This process continues, creating a money multiplier effect. The money multiplier is 1/0.2 = 5. Therefore, the total increase in checkable deposits is 5 times the original deposit, which is $500.

Suppose a Bank Gets a New Deposit of $100 Cash