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04.10.2012 17:49

Bank Lending Behavior and the RRR

How can banking regulators boost the lending capacity of commercial banks? A quick look at the current reserve requirement ratio in relation to loan-deposit ratios gives clues to the answer
By Ye Xiang

If we compare the financial system to a machine, the central bank's monetary base can be seen as production input and the broader money supply as the output after processing. What are the returns on a 1 yuan input? It is determined by the structure of the machine, and most crucially, by the reserve requirement ratio.

Without accounting for cash leakages, the money multiplier is the reciprocal of the reserve requirement, for instance, if the RRR is 20 percent, the money multiplier is 5. There is no direct link between the money multiplier and the loan-deposit ratio, but as a part of the financial system, the loan-deposit ratio also has an impact on monetary expansion.

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