Question

The actual reason that banks must hold required reserves is:

1. To enhance liquidity and deter bank runs

2. To help fund the Federal Deposit Insurance Corporation, which insures bank deposits

3. To give the Fed control over the lending ability of commercial banks.

4. To help increase the number of bank loans

Short answer

The correct option is c.

Step-by-step solution

Explanation

The Fed decides the required reserve ratio or required reserve amount to affect the lending capacity of the banks. A higher ratio means low availability of money with the banks that can be offered as loans, thus resulting in lower lending capacity. A low required reserve ratio means greater capacity to extend loans.

A commercial bank must keep some percentage of its checkable deposit with the Fed. For example, if the required reserve rate is 5%, it becomes compulsory for a commercial bank to keep 5% of checkable deposit liabilities with the Fed.