Reserve Requirements
Candlefocus EditorWhen the central bank increases the reserve requirements, it sets limits on the amount of money a bank can lend, which in turn will restrict the amount of deposits that it can make, affecting the availability of money in the economy. Reserve requirements directly target the money supply by restricting the amount of money in circulation. Since banks are the primary source of money in the economy, this strategy can serve as an effective tool for controlling inflation.
At the same time, when the central bank decreases the reserve requirements, it increases the money supply and lowers the interest rates, which encourages more lending. This can lead to economic recovery, cost reduction and higher levels of personal consumption and investment.
Reserve requirements have become increasingly popular in recent years, but against the backdrop of the COVID-19 pandemic, it saw an unprecedented response from the federal government and the Federal Reserve. In March 2020, the Federal Reserve set the reserve requirement to zero, a move that has reduced the cost of lending and money market funds, providing a much needed boost to the economy.
This move is expected to help stimulate the economy, but it has also worried experts as an uncontrolled money supply could eventually lead to inflation. The Federal Reserve also stated that while they will maintain the zero rate reserve requirements, they will constantly monitor it, ready to make adjustments if needed.
In conclusion, reserve requirements are an important tool the central bank uses to manage the money supply and interest rate of an economy, and is currently set at zero in response to the COVID-19 pandemic. However, this tool needs to be used with cautious, as an uncontrolled money supply could lead to inflation. The Federal Reserve has promised to gauge the situation constantly and make adjustments if required.