Money Creation - Money Creation Through The Fractional Reserve System

Money Creation Through The Fractional Reserve System

Through fractional-reserve banking, the modern banking system expands the money supply of a country beyond the amount initially created by the central bank. There are two types of money in a fractional-reserve banking system, currency originally issued by the central bank, and bank deposits at commercial banks:

  1. central bank money (all money created by the central bank regardless of its form, e.g. banknotes, coins, electronic money)
  2. commercial bank money (money created in the banking system through borrowing and lending) - sometimes referred to as checkbook money

When a commercial bank loan is extended, new commercial bank money is created. As a loan is paid back, more commercial bank money disappears from existence. Since loans are continually being issued in a normally functioning economy, the amount of broad money in the economy remains relatively stable. Because of this money creation process by the commercial banks, the money supply of a country is usually a multiple larger than the money issued by the central bank; that multiple is determined by the reserve ratio or other financial ratios (primarily the capital adequacy ratio that limits the overall credit creation of a bank) set by the relevant banking regulators in the jurisdiction.

Read more about this topic:  Money Creation

Famous quotes containing the words money, creation, fractional, reserve and/or system:

    Too many desires harm the mind; to desire much money harms the body.
    Chinese proverb.

    The practice of S/M is the creation of pleasure.... And that’s why S/M is really a subculture. It’s a process of invention. S/M is the use of a strategic relationship as a source of pleasure.
    Michel Foucault (1926–1984)

    Hummingbird
    stay for a fractional sharp
    sweetness, and’s gone, can’t take
    more than that.
    Denise Levertov (b. 1923)

    One should never make one’s debut with a scandal. One should reserve that to give an interest to one’s old age.
    Oscar Wilde (1854–1900)

    The violent illiteracies of the graffiti, the clenched silence of the adolescent, the nonsense cries from the stage-happening, are resolutely strategic. The insurgent and the freak-out have broken off discourse with a cultural system which they despise as a cruel, antiquated fraud. They will not bandy words with it. Accept, even momentarily, the conventions of literate linguistic exchange, and you are caught in the net of the old values, of the grammars that can condescend or enslave.
    George Steiner (b. 1929)