ECONOMICS (CBSE/UGC NET)

Detailed explanation-1: -Fractional Reserve Banking refers to the system where a bank holds a certain portion of your deposited money in reserve form and loans out the remaining amount to another party. The reserve amount is available for the depositor to withdraw.

Detailed explanation-2: -Fractional reserve banking permits banks to use funds (i.e., the bulk of deposits) that would be otherwise unused and idle to generate returns in the form of interest rates on new loans-and to make more money available to grow the economy. It can thus allocate capital better to where it is most needed.

Detailed explanation-3: -The Federal Reserve requires banks and other depository institutions to hold a minimum level of reserves against their liabilities. Currently, the marginal reserve requirement equals 10 percent of a bank’s demand and checking deposits.

Detailed explanation-4: -The fractional reserve banking system legally permits banks to hold less than 100% of their deposits as a reserve.

Detailed explanation-5: -Fractional reserve lending allows banks to lend against deposits not otherwise held in reserve. If the reserve requirement is 10% of deposits, then a bank can lend up to 90% of deposits. If there is no reserve requirement, as with time deposits, for example, the bank can lend out up to 100% of the deposits.