What are reserve requirements?
Reserve requirements are balances that banks must hold against specified liabilities under central-bank rules. The applicable base, currency and ratio depend on the current regulation.
Calculation and operation
1. Base and ratio The eligible deposit and other liabilities form a base to which the applicable ratio is applied. If the ratio were 10% on a qualifying 100-unit liability, the requirement would be 10 units. This is an illustration, not a current rate. 2. Maintenance The measurement period and the period in which reserves are held may differ. Remuneration, penalties and eligible currencies depend on current rules. Consult the central bank for current details. 3. Liquidity effect A higher ratio can tie up more bank funds, all else equal. Yet lending also depends on capital, funding costs, demand and credit risk. Reserve requirements are one instrument among several. 4. Purpose Requirements can support liquidity management and monetary transmission. Operational cash and voluntarily held excess balances are different from required reserves.
Effects and limits
5. Whose money is it? Required reserves are calculated against a bank’s aggregate eligible liabilities, not sealed bundles linked to individual customer accounts. Deposit claims and deposit insurance are separate matters. 6. Common misconception A 10% requirement does not imply the remaining 90% must be lent. A ratio change also does not cause an identical immediate move in inflation or lending rates.