Question

Assume the Federal Reserve has a 25% reserve requirement. A new-to-the-system deposit of $100,000 is placed into a bank. What will be the change in the overall banking system’s financial position when the deposit is first made? What will be the theoretical ending position of the banking system assuming excess reserves are eventually lowered to $0? (Be sure to utilize the reserve multiplier in your answer and explain the importance of legal reserves, required reserves, and excess reserves.)

Answer 1

Deposit, D = 100,000

Reserve requirement = RR = 25%

Hence, required reserves = D x RR = 100,000 x 25% = 25,000

So, as soon as the deposit is made:

Assets	Liabilitites
Reserves = 100,000	Deposits = 100,000

The reserves as of now are in excess of required reserve and the excess reserve is = Reserves - required reserve = 100,000 - 25,000 = 75,000

So, the bank will disburse this amount as loans and the financial position will eventually change to:

Assets	Liabilitites
Reserves = 25,000	Deposits = 100,000
Loans = 75,000