Question

Assume that a bank has $12 million in reserves and checkable deposits of $10 million and the required reserve ratio is 10%. The maximum amount of loans this bank can make is-

Answer 1

Answer - The maximum amount of loans this bank can make is $11 million.

Required reserves are a certain percentage of the deposits of bank which it is required to keep with itself in the form of reserves. These reserves cannot be used by the bank to extend loans and advances. It is calculated as-

Required reserves= deposits x required reserve ratio

Given that bank has checkable deposits of $10 million and required reserve ratio is 10%

Required reserves= $10 million x 10%

Required reserves= $10 Million x 10/100

Required reserves= $10 million x 0.1

Required reserves= $1 million

Hence, the bank is required to keep with itself required reserves of $1 million.

We know that reserves of the bank consist of required reserves and excess reserves. Required reserves cannot be used by the bank to extend loans and advances. Excess reserves are the reserves which are over and above the required reserves . These reserves are used to make loans and advances. From the given information in the question we can see that the total reserves of the bank are $12 million whereas the required reserves ( as calculated above) is $1 million . Hence, the total reserves of the bank are over and above the required reserves, which is known as excess reserves.

Excess reserves= Total reserves - required reserves

Excess reserves= $12 million - $1 million

Excess reserves= $11 million

Hence, the excess reserves of the bank are $11 million. This amount of excess reserve is the maximum amount of loans that the bank can make.