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Reserve ratio is the amount of cash a bank must keep in its bank vaults or deposit into a central, governing bank. The percentage is based on the bank’s total deposits. 

Governments often use reserve requirements as a control over the money supply. The basic money supply of most countries is made up of cash plus the total of all bank demand deposits. The reserve ratio creates a multiplier effect on the cash. When a person deposits $1,000 in the bank, the bank is not required to keep all of that $1,000 on hand in case the depositor wants it back later -- the bank is only required to keep a portion on hand. The percentage of cash the bank is required to keep (and thus not lend out) is the reserve ratio.

Assume ABC Bank has total deposits of $2 billion and the reserve ratio is 12%. This means that ABC is required to keep $240 million in cash reserves. In most developed countries, the majority of the cash reserve is kept at the central, governing bank, and a fraction is in the bank’s own vaults. The cash is transferred between the two based on daily cash needs.

In the United States, the Federal Reserve controls the reserve ratio requirements. Currently, banks with deposits of less than $14.5 million have zero reserve requirements. For banks with deposits between $14.5 million and $103.6 million, the reserve requirement is 3%. It’s 10% for banks with deposits exceeding $103.6 million.

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