Which statement accurately describes reserve ratio policy?

Which statement accurately describes reserve ratio policy?

• A. The minimum fraction of bank deposits that banks must hold as reserves.
• B. The percentage of deposits that banks keep as vault cash.
• C. The minimum fraction of bank deposits that banks must hold as reserves.
• D. The total reserves required by law.

Answer: (C)

Reserve ratio policy is about the minimum fraction of customer deposits that banks must hold as reserves. This ratio is set by the central bank and applies to deposits, with reserves counting both vault cash and funds held at the central bank. It’s a policy lever to control money creation: raising the reserve ratio forces banks to hold more reserves and lend less, reducing the money supply; lowering it allows more lending and increases the money supply. The best description is that it specifies the minimum fraction of bank deposits that must be held as reserves. Describing reserves only as vault cash misses the reserves held at the central bank, and talking about total reserves required by law refers to an absolute amount rather than the fraction banks must hold.

Reserve ratio policy is about the minimum fraction of customer deposits that banks must hold as reserves. This ratio is set by the central bank and applies to deposits, with reserves counting both vault cash and funds held at the central bank. It’s a policy lever to control money creation: raising the reserve ratio forces banks to hold more reserves and lend less, reducing the money supply; lowering it allows more lending and increases the money supply.

The best description is that it specifies the minimum fraction of bank deposits that must be held as reserves. Describing reserves only as vault cash misses the reserves held at the central bank, and talking about total reserves required by law refers to an absolute amount rather than the fraction banks must hold.