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The Federal Reserve of the United States of America is the regulatory entity that determines the reserve ratio, and therefore the required reserves that banks must keep on hand.

The Federal Reserve

The Federal Reserve, also known as the Federal Reserve System or The Fed, is the central bank of the United States. It was created by Congress to provide the U.S. with a safer and more stable monetary and financial system. The Federal Reserve was created in 1913 when President Woodrow Wilson signed the Federal Reserve Act.

Federal Reserve responsibilities are:

• to control the nation's monetary policy by influencing the money supply and credit conditions in the economy in an attempt to achieve full employment;

• to supervise and regulate banks and other financial institutions to ensure the stability of the U.S. banking and financial system;

• to contain the systematic risk of the economy; and

• to provide financial services to the U.S. government, U.S. financial institutions and foreign official institutions.

The Reserve Ratio

The reserve ratio is one of the three tools that the Federal Reserve uses to control the money supply to expand or contract the economy. The reserve ratio sets the amount of reserves that banks are required to hold as cash on hand in a vault or with the local Federal Reserve Bank.

If the Federal Reserve wants to increase the money supply, it lowers the reserve ratio; if it wants to lower the money supply, it increases the reserve ratio. Lowering the reserve ratio expands the economy, and increasing the reserve ratio contracts the economy.

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