Fractional Reserve Banking

Glossary

Banking

Fractional Reserve Banking

Fractional reserve banking describes the banking system in most countries, which functions on the notion that depositors will not withdraw their deposits at the same time. On that basis, while banks maintain cash and quasi-cash reserves as laid down by regulation to fund some withdrawals, they lend the rest out to consumers and businesses. This gives rise to natural leverage in the system, since the proportion notionally lent out is recreated as a deposit, which is also lent out (minus the required retained reserves). ? In effect, it gives rise to money-printing effects, or as a money-multiplier. Critics of this system point to the solvency issues it can cause if there is an economic event that saps confidence and forces depositors to withdraw cash en masse.

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