How Banks Create Money - Macro Topic 4.4

Mr. Clifford explains how banks create money through fractional reserve banking. Banks hold a portion of deposits as required reserves and loan out the rest, creating new money. The money multiplier, determined by the reserve ratio, shows how initial deposits can lead to a larger increase in the money supply. Examples illustrate the process, highlighting the difference between bank loans and Federal Reserve actions.

What is the primary reason banks do not loan out all of their deposits?

• To maximize their profits

• To ensure they have enough money for bank runs

• To avoid paying interest on deposits

• To comply with government regulations

In the example provided, how much new money is created from an initial deposit of $100 with a 10% reserve requirement?

• $810

• $1,000

• $100

• $900

What is the money multiplier if the reserve requirement is 20%?

• 5

• 20

• 4

• 10

How much new money is created when the Fed buys $500 worth of bonds with a 20% reserve requirement?

• $2,000

• $2,500

• $500

• $1,000

What is the difference between money creation through bank loans and the Fed buying bonds?

• Bank loans create more money than the Fed buying bonds

• The Fed buying bonds creates new money immediately

• The Fed buying bonds decreases the money supply

• Bank loans do not affect the money supply