Question

A single commercial bank in a multi-bank banking system can lend only an amount equal to its initial preloan_____________. a. Total reserves. b. Excess reserves. c. Total deposits. d. Excess deposits.

Short answer

A single bank can lend an amount equal to its excess reserves.

Step-by-step solution

Understanding the Question

The question is asking about the lending capacity of a single commercial bank in a multi-bank system. To answer this, we must identify which part of the bank's reserves can be lent out.

Identify the Key Terms

The main terms in this question are 'total reserves', 'excess reserves', 'total deposits', and 'excess deposits'. Understanding these will help in identifying which of them represents the amount that can be lent out.

Define Total Reserves

Total reserves refer to the sum of deposits that a bank holds in reserve and are not available for lending. This includes both required reserves and excess reserves.

Define Required and Excess Reserves

Required reserves are the minimum reserves a bank must hold and are not available for lending. Excess reserves are any reserves over the required minimum and are available for lending.

Analyze Total Deposits and Excess Deposits

Total deposits refer to all deposits made by customers, whereas excess deposits is not a standard term in banking. Deposits themselves are not directly lent out; instead, reserves derived from deposits may be lent.

Conclusion

Based on the definitions, a bank can only lend the amount equal to its 'excess reserves', as this is the portion over and above the required reserves.

Key concepts

Commercial Bank Lending

When it comes to commercial bank lending, banks play a crucial role in the economy by providing loans. This function helps fuel economic growth. Banks lend money to individuals and businesses so they can purchase goods, expand operations, or invest.
The lending capacity of a bank is not unlimited. It relies on how much money it has reserved.

• Commercial banks use funds from customer deposits to create loans. They earn interest on these loans, which serves as a key revenue source.
• However, banks must follow regulations on how much they can lend, constrained by reserve requirements.

In a multi-bank system, each bank carefully manages its reserves to maximize its lending capacity while staying compliant with regulations. This ensures economic stability and customer confidence.

Excess Reserves

Excess reserves are important in determining how much a commercial bank can lend. These reserves are the funds a bank holds over the minimum required by law.

• Required reserves are set by the central bank and are a safety net to ensure banks don't overextend.
• Excess reserves are available for lending or investing in income-generating activities.

A bank's ability to lend is directly tied to its excess reserves. More excess reserves mean more lending power. It's like having extra money to spend freely, except here, the goal is to lend or invest to earn more income.
In times of economic uncertainty, banks might choose to increase their excess reserves to safeguard against potential withdrawals or losses.

Multi-Bank Banking System

In a multi-bank banking system, several banks operate within the same economy, serving a wide array of customers and businesses. This system ensures diversity in banking services and robust economic support.

• The presence of multiple banks allows for competitive interest rates and lending terms, benefiting consumers.
• Banks are able to engage in interbank lending when needed. They can borrow or lend reserves to manage liquidity efficiently.

Each bank in the system is responsible for managing its reserve levels to optimize its lending capacity while adhering to regulatory requirements. This coordination ensures the overall stability and health of the financial system.
Multi-bank systems foster innovation and resilience, reflecting the complexity and dynamism of modern economies.