Bank deposit reserves, also known as Bank Reserves in English, are the reserve cash that financial institutions keep in their vaults or deposited with the central bank within a given period of time. Bank deposit reserves are set up to prevent banks from being unable to respond to customers' withdrawal needs and causing bank runs and panics. Therefore, the central banks of different countries will impose minimum cash reserve requirements on their domestic financial institutions. Financial institutions that need to implement bank deposit reserves include commercial banks, savings banks, credit unions, branches or agencies of foreign banks in the country, etc. Bank deposit reserves are cash reserved by banks to respond to customer withdrawal needs and prevent bank runs and panics; Bank reserves can be deposited either in their vaults or with the central bank; The central bank will set minimum deposit reserve requirements for financial institutions, often controlled by setting the deposit reserve ratio; The Federal Reserve in the United States controls the flow of U.S. dollars in the financial market by setting minimum reserve requirements. The central bank of the United States is the Federal Reserve, while the central bank of China is the People's Bank of China. The Federal Reserve will pay a certain amount of interest on the bank deposit reserves held by banks at the Federal Reserve. This interest is called "Interest on Reserve Balances", which in English is Interest On Reserve Balances. The minimum deposit reserve ratio is calculated by multiplying all deposits of a financial institution by the minimum deposit reserve ratio (Reserve Requirement Ratio). The minimum deposit reserve ratio is generally determined by the central bank. Financial institutions of different sizes will have different minimum bank reserve ratios. Generally, large financial institutions have higher minimum deposit reserve requirements. The level of the deposit reserve ratio will not only affect the minimum amount of deposits that financial institutions must maintain, but will also affect the money supply of overall economic activities to a certain extent. How to calculate the minimum deposit reserve? The minimum amount of reserves required by all financial institutions is the total deposit amount of the financial institution multiplied by the current deposit reserve ratio, that is: Amount of bank deposit reserves = total deposits held by banks x deposit reserve ratio Bank Reserve Requirement = Total Deposits x Reserve Requirement Ratio Among them, the minimum deposit reserve ratio, or Reserve Requirement Ratio in English, is the ratio of the minimum cash reserves of financial institutions. The minimum deposit reserve ratio is set by the central bank. For financial institutions of different sizes, the central bank often sets different minimum deposit reserve ratios. The amount of all deposits of different financial institutions multiplied by the deposit reserve ratio is equal to the amount of cash reserves that financial institutions must retain at that time. Therefore, financial institutions multiply their total deposits by the deposit reserve ratio to equal the minimum amount of reserves that should be retained currently. For example, if the total deposits of a commercial bank on that day are US$10 billion and the deposit reserve ratio on that day is 10%, then the minimum reserve amount of the commercial bank on that day must be US$10 billion times 10%, or US$1 billion. In the United States, the deposit reserve ratio is stipulated by Federal Reserve Regulation D. Since the establishment of the Federal Reserve, the deposit reserve ratio has ranged from 0% to 10%. In March 2020, in response to the impact of Covid-19 on the economy, the Federal Reserve lowered the minimum deposit reserve requirement to zero in order to encourage banks to increase lending. For financial institutions of different sizes, the Federal Reserve adopts different minimum deposit reserve ratios. For financial institutions whose deposit amount is less than the exempt amount (Exempt Amount), the minimum deposit reserve ratio = 0; For financial institutions whose deposit amount is greater than the exemption amount (Exempt Amount) but less than the low reserve requirement amount (Low Reserve Tranche Amount), the minimum deposit reserve ratio = 3%;
For financial institutions with deposits greater than the Low Reserve Tranche Amount, the minimum reserve requirement ratio = 10%. Below are the exemption amounts and low reserve amounts for the 20 years prior to March 2020: DateLow Reserve Tranche Amount(Millions)Exempt Amount(Millions) 42.8 5.5 41.3 5.7 42.1 6.0 45.4 6.6 47.6 7.0 48.3 7.8 45.8 8.5 43.9 9.3 44.4 10.3 55.2 10.7 58.8 71.0 11.5 79.5 12.4 89.0 13.3 103.6 14.5 110.2 15.2 115.1 15.5 122.3 16.0 124.2 16.3 127.5 16.9 182.9 21.1 640.6 32 For financial institutions, The higher the amount of deposit reserves, the easier it is to cope with customers' withdrawal needs, and the lower the probability of a run panic; The lower the amount of deposit reserves, the less the amount that banks must retain. When customers have large withdrawal needs, they may be unable to withdraw funds, and the higher the probability of a run panic. What is the role of setting a minimum deposit reserve? The most direct role of the minimum bank deposit reserve requirement is to adjust the minimum amount of cash required to be held by all financial institutions. The central bank will adjust the amount of bank deposit reserve requirements by adjusting the bank deposit reserve ratio. The primary purpose of the Federal Reserve's setting of the deposit reserve ratio is to ensure that financial institutions retain enough cash to respond to customers' large-scale withdrawal needs and avoid malignant events such as bank runs and panics. Secondly, the Federal Reserve will adjust the overall economy by adjusting the deposit reserve ratio. For example, if the Federal Reserve lowers the minimum reserve amount of banks by lowering the deposit reserve ratio, banks can lend at lower interest rates and with more capital. Consumers and companies can obtain funds at a lower cost for consumption or expansion of operation scale. The money supply in the market economy increases, thus ultimately achieving the purpose of stimulating accelerated economic development. Alternatively, the Federal Reserve can increase the minimum amount of reserves that financial institutions must hold by increasing the deposit reserve ratio. Banks' lending capital will decrease, interest rates will rise, and the cost for consumers and manufacturers to obtain funds will become higher, thereby controlling the money supply in the market, slowing down economic development, and slowing down inflation. For bank reserves deposited with the Federal Reserve, starting from October 6, 2008, the Federal Reserve began to pay interest on this part of the reserves to banks that deposited the reserves in the Fed's account. The interest rate on this part of the interest became the statutory reserve interest rate (Interest Rate On Required Reserves, referred to as IORR). For deposits that exceed the statutory amount of reserves, the Federal Reserve will pay excess reserve interest to the depository banks on the excess. The interest rate on this portion is called the Interest Rate On Excess Reserves (IOER), which is set by the Board of Governors of the Federal Reserve [source]. Starting from July 29, 2021, IORR and IOER will be replaced by another IOBR. IOBR is the abbreviation of Interest on Balanced Reserves, which refers to the interest rate paid by the Federal Reserve on reserve balances deposited in Federal Reserve banks [source]. How does the Fed use minimum reserve requirements to regulate the economy? Since the minimum deposit reserves of banks will directly affect the cash reserves of banks and other financial institutions, it will affect the level of bank lending rates, which will affect the level of money supply in the market, and ultimately affect the overall market economy. The specific process is: Reduce deposit reserve requirements Increase deposit reserve requirements The purpose of the Federal Reserve
Increase the circulation of US dollars and stimulate the economy Reduce the circulation of U.S. dollars and cool economic activity The amount of reserves a bank must keep reduce increase Bank lending capital bank lending interest rate lower rise consumer or producer borrowing costs market money supply personal spending power Overall market economic conditions Stimulate consumption and increase the overall economic development speed Suppress consumption and slow down the overall economic development It can be seen that bank deposit reserves also play a very important role in overall economic development. When the central bank lowers deposit reserve requirements, the amount of cash that financial institutions must retain is reduced, more cash can be used for lending, and interest rates will be lowered at the same time. This increases the money supply in the overall economy, which can effectively stimulate consumption and accelerate economic growth. Therefore, generally during an economic recession, the central bank will lower the deposit reserve ratio to regulate the economy. When the central bank raises deposit reserve requirements, financial institutions must retain more cash, reduce lending capital, interest rates will rise at the same time, and the amount of money circulating in the market will decrease, controlling the economic growth rate or controlling inflation. Therefore, when inflation in the overall economy is too fast, the central bank will increase reserves to regulate the economy. More macroeconomics What is the Federal Reserve Balance Sheet? Explore the Fed’s 24 primary dealers What is the National Financial Conditions Index? Published by the Chicago Fed What is the Buffett indicator? Buffet Indicator What is the U.S. Treasury Volatility Index? Move Index What dollar index? US Dollar Index What are open market operations? Open Market Operations What is the reserve balance interest rate? Interest in Reserve Balances What is the Personal Consumption Expenditure Index? PCE Price Index