Fundamentals of Economics
One of the primary functions of banks is to create money. Banks act as intermediaries that connect borrowers and savers. They accept deposits from savers and lend them to borrowers. When a bank lends money, it creates new money. This is known as the money creation process.
For example, suppose a person deposits $1000 in a bank. The bank then lends $900 of that money to a borrower. The borrower uses that $900 to purchase something from another person, who then deposits that $900 in a different bank. That bank then lends $810 of that $900 to another borrower. This process continues, with each bank lending out a percentage of the deposits it receives. This creates new money in the economy.
The amount of money that can be created by a bank is determined by the reserve requirement set by the central bank. The reserve requirement is the percentage of deposits that banks are required to hold in reserve. For example, if the reserve requirement is 10%, then a bank can lend out 90% of the deposits it receives.
This process of money creation can lead to inflation if the supply of money grows faster than the supply of goods and services in the economy. The central bank can control the money supply by adjusting the reserve requirement or by buying and selling government securities in the open market. These actions are known as monetary policy.
All courses were automatically generated using OpenAI's GPT-3. Your feedback helps us improve as we cannot manually review every course. Thank you!