17 terms

FRACTIONAL RESERVE BANKING

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cost-push inflation
inflation that results from a price decrease; decrease in AS
- TWO MAIN SOURCES OF DECREASE IN AS: increase in wage rates; increase in the price of raw materials
demand-pull inflation
inflation that results from an increase in AD
- MAJOR FACTORS: increases in money supply, increases in gov. purchases, increases in the price level in the rest of the world
gist of fractional reserve banking
1. people deposit money
2. the Fed sets a reserve requirement (%) of what fraction of deposits banks should keep; what they don't keep, they loan out
3. the loans are then deposited by the receiver, and the cycle begins again
Great Depression + relevance to FRB
- people rushed to the banks to withdraw their savings out of fear of losing more, but the banks were also short of cash
- 1 year after the crash: 800 banks failed, 9 million savings accounts wiped out, 4 million families without any means of support
- gov had no direct impact on the lives of Americans
what are limitations to bond buybacks/FRB?
- banks may want to hold onto excess reserves (ER) to cover some reserve requirements (RR)
- hoarding money: customers borrow money but don't redeposit it
- lenders demand money, but customers don't want to borrow money
reserves
deposits that banks have received but have not loaned out
in what situation would banks NOT influence the supply of money?
if banks hold all deposits in reserve
fractional-reserve banking (FRB)
a banking system in which banks hold only a fraction of deposits as reserves
reserve ratio
the fraction of deposits that banks hold as reserves; determined by a combo of gov. regulation and bank policy
reserve requirement (RR)
set by the Fed, a minimum amount of reserves that banks must hold
excess reserves (ER)
reserves held above the legal minimum; so banks can be more confident that they won't run short of cash
in what situation would banks CREATE money, thus, INCREASING the money supply?
when banks hold only a fraction of deposits in reserves
- rest is loaned out, deposited, loaned out, etc.
- each time money is deposited and a bank loan is made, more money is created
money multiplier (MM)
the amount of money the banking system generates with each dollar of reserves; the reciprocal of the reserve ratio (1/RR)
what makes for a small money multiplier?
a high reserve ratio-the higher the reserve ratio, the less of each deposit banks loan out, and the smaller the money multiplier
open-market operations
the purchase and sale of bonds by the US government and by the Fed
total amount of $ created (equation)?
(excess reserves [ER]) x (money multiplier [MM])
federal funds
overnight borrowings between banks and other entities to maintain their bank reserves at the Fed
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