2. 1 Chapter 26 Money Creation and the Banking System 5/25/2015 © ©1999 South-Western College Publishing

3. 2 Commercial Banking System Privately owned, profit seeking 2 major functions, accept deposits and make loans

4. 3 Who were the first bankers? Goldsmiths in the Middle Ages © ©1999 South-Western College Publishing

5. 4 Why are banks called Depository Institutions? Because they accept deposits from the public © ©1999 South-Western College Publishing

6. 5 What is a Fractional Reserve Banking System? A banking system that provides people immediate access to their deposits, but allows banks to hold only a fraction of those deposits in reserve © ©1999 South-Western College Publishing

7. 6 How do banks make profit? They pay depositors a lower interest and lend a fraction of the deposits out at a higher interest © ©1999 South-Western College Publishing

8. 7 What determines a Bank’s Profit? The spread between interest paid to deposits and interest received from loans © ©1999 South-Western College Publishing

9. 8 What is a Bank’s Balance Sheet? The bank’s statement of liabilities (what it owes) and assets (what it owns) © ©1999 South-Western College Publishing

10. 9 Assets and Liabilities of a Bank ASSETS LIABILITIES RESERVES LOANS BONDS BUILDINGS EQUIPMENT DEPOSITS BORROWING ASSETS - LIABILITIES EQUALS NET WORTH

11. 10 Find out about cyberspace banking: http://www.sfnb.com http://www.ots.treas.gov/ebanking. html © ©1999 South-Western College Publishing

12. 11 What determines how much a Bank can lend? The legal reserve requirement determines what fraction of a bank’s deposits they can lend © ©1999 South-Western College Publishing

13. 12 What is a Legal Reserve Requirement? The percentage of demand deposits banks and other financial intermediaries are required to keep in cash reserves © ©1999 South-Western College Publishing

14. 13 What are Excess Reserves? Deposits that a bank has above its required reserves © ©1999 South-Western College Publishing

15. 14 How do Banks multiply money? Because each bank can legally lend its excess reserves, there is a multiple process that take place as money circulates © ©1999 South-Western College Publishing

16. 15 The money multiplier process Assume all excess reserves are loaned out Use a reserve ratio of 10% (.10)

17. 16 What is the Potential Money Multiplier? The increase in the money supply that is potentially generated by a change in demand deposits © ©1999 South-Western College Publishing

18. 17 What is the money multiplier with a reserve requirement of 1/10? 10 © ©1999 South-Western College Publishing

19. 18 $100 $90 $81 $74 $63 $1,000 original deposit total money © ©1999 South-Western College Publishing...

20. 19 What is the Money Multiplier formula? 1/Required reserve ratio © ©1999 South-Western College Publishing

21. 20 If the required reserve ratio is 1/10 and all banks are exactly meeting their reserve requirement - how do we calculate the money multiplier? © ©1999 South-Western College Publishing

22. 21 One divided by one tenth equals 10 1 1.. 10 = 1 X 1 = Multiplier 10 © ©1999 South-Western College Publishing 21

23. 22 Does this multiplication process work in reverse? Yes! For every dollar taken out of circulation, there is a multiple effect on the money supply © ©1999 South-Western College Publishing

24. 23 Can a Bank fail? If its liabilities are greater than its assets, a bank can fail © ©1999 South-Western College Publishing

25. 24 How do we Safeguard the Banking System? The Federal Deposit Insurance Corporation (FDIC) © ©1999 South-Western College Publishing

26. 25 What is the FDIC? A government insurance agency that provides depositors 100% coverage on their first $100,000 of deposits © ©1999 South-Western College Publishing

27. 26 What else does the FDIC do? It audits and examines banks to detect any weaknesses in its operation © ©1999 South-Western College Publishing

28. 27 Despite the FDIC, can banks still fail? Yes! There were many bank failures as recently as the 1980’s and 1990’s © ©1999 South-Western College Publishing

29. 28 Bank Failures in the 80’s and 90’s Effects of inflation from the 70’s and 80’s Bad loans, energy industry Expanded deposit insurance

30. 29 29 © ©1999 South-Western College Publishing http://www.fdic.gov/learning/index.html http://www.bog.frb.fed.us http://www.ffiec.gov/nic http://www.chi.frb.org http://www.bankweb.com/bankweb.html http://www.bankrate.com http://www.bankwatch.com http://www.bankinfo.com

31. 30 What is a Fractional Reserve Banking System?What is a Fractional Reserve Banking System? How do banks make profit? What is a Legal Reserve Requirement? What are Excess Reserves? How do Banks multiply money? What is the money multiplier formula? What is the FDIC?

32. 31 ENDEND © ©1999 South-Western College Publishing