What Is a Reservable Deposit?
A reservable deposit is any bank deposit that is subject to reserve requirements imposed by the U.S. Federal Reserve Bank. Such a deposit may be used, in part, as a loan via the process of fractional reserve banking. The other part, determined by the Fed's reserve requirements, must be retained by the bank and made available for immediate withdrawal upon request.
The purpose is to provide a financial cushion for the banking sector and avoid bank runs.
- A reservable deposit is a bank deposit that is subsequently regulated by the Federal Reserve's reserve requirement rules.
- Reservable deposits include transaction (checking) accounts, savings accounts, and non-personal time deposits.
- Sweep accounts are non-reservable deposit accounts, such as money market funds, that generally earn a higher interest rate than reservable deposit accounts.
Understanding Reservable Deposits
Reservable deposits include savings accounts and transaction accounts. Transaction accounts include deposits that are readily available to the account owner, such as a checking account or share draft account. These accounts may be accessed through cash withdrawals, the use of debit cards or checks, or electronic transfers. Transaction accounts are used by both individuals and institutions. Because a bank customer may withdraw at any time, the Fed requires that a certain percentage be kept on hand and not loaned out.
Non-personal time deposits are accounts owned by institutions, not an individual(s), that pay an interest rate and have a specified maturity date before which the depositor must pay a fee to withdraw funds. An example of a non-personal time deposit account is a certificate of deposit (CD) owned by a corporation.
The Federal Reserve Bank's Board of Governors determines the reserve requirement rate, which is imposed on the total value of a depository institution's reservable deposits. If account holders increase the amount of money held in their reservable deposit accounts, the depository institution's reserve requirement will increase. The amount of this reserve requirement must be held either as cash in an institution's own vault or as a deposit at the nearest Federal Reserve bank.
This practice is known as fractional reserve banking because only a fraction of customer deposits are kept on hand for immediate withdrawal. The remaining value of customer deposits is loaned out so the bank can earn a return on it.
Many depository institutions make use of sweep accounts, which are non-reservable deposit accounts, such as money market funds, that generally earn a higher interest rate than reservable deposit accounts. Depository institutions may analyze reservable deposit accounts to determine if there are excess funds that can be moved out of the account, and will automatically transfer these funds, sometimes as often as daily, to a sweep account that is not subject to federal reserve requirements.
By utilizing sweep accounts, the depository institution lowers the amount of money it must hold in cash to meet reserve requirements, thereby increasing the amount of money it can lend out or invest to earn an interest rate or higher rate of return.