CFA Level I · CFA Level I Exam · Monetary Policy
In a fractional reserve banking system, an increase in the proportion of excess reserves that banks choose to hold will most likely:
The money multiplier would fall. When banks hold more excess reserves, a smaller fraction of each deposit is lent out, so the effective reserve ratio rises and the multiplier, approximately its reciprocal, declines, limiting deposit creation.
- Areduce the money multiplierCorrect
- Bincrease the money multiplier
- Cleave the money multiplier unchanged
Explanation
Holding more excess reserves lowers the share of each deposit that can be lent. The effective reserve ratio rises, so the multiplier, roughly 1/reserve ratio, falls. Lending and deposit creation are reduced.
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