Q:

How do you calculate the required reserve ratios?

A:

Quick Answer

The required reserve ratio is not calculated by individuals or banks, but is instead set by those who oversee the banks for that particular economy. The required reserve ratio is the amount of deposited assets that a bank must keep immediately available. Its purpose is to ensure bank liquidity.

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Full Answer

While the required reserve ratio is set by an outside controlling financing board, the actual reserve ratio on hand can be calculated by dividing the amount of deposited money retained on hand by the bank by the total amount of deposited money that the bank has. For example, if a bank has $100 million in total deposits, but loans and invests all but $15 million, then the bank has a reserve ratio of 15 percent.

The larger the reserve ratio, the more liquidity the bank has. The reason a minimum is required for most banks is to ensure that the bank has enough cash on hand to handle normal operations, or to handle a run on the bank. The money that is not kept on hand is generally used by the bank in profit operations such as customer loans and investments. If bank balances rise without a rise in loans or investments, then the reserve ratio rises. If loans and investments rise without a rise in balances, then the ratio falls.

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