Money Multiplier (Simple) Calculator
Relates the reserve ratio to potential money creation.
Formula first
Overview
The simple money multiplier represents the maximum factor by which the money supply can increase for every dollar of excess reserves in the banking system. It operates on the principle of fractional-reserve banking, where banks lend out a portion of their deposits to create new credit.
Symbols
Variables
m = Money Multiplier, rr = Reserve Ratio
Apply it well
When To Use
When to use: This formula is used in macroeconomic modeling to estimate the potential expansion of the money supply following a change in the monetary base. It assumes that banks hold no excess reserves and that the public does not hold any currency outside of the banking system.
Why it matters: It demonstrates how central bank policies, such as changing reserve requirements, directly influence the liquidity and credit availability in an economy. Understanding this relationship helps economists predict inflationary pressures and the effectiveness of monetary stimulus.
Avoid these traps
Common Mistakes
- Using the interest rate instead of the reserve ratio.
One free problem
Practice Problem
If the central bank mandates a reserve requirement of 10%, what is the maximum factor by which the money supply can expand for every new dollar of reserves?
Solve for:
Hint: Divide 1 by the decimal representation of the 10% reserve requirement.
The full worked solution stays in the interactive walkthrough.
References
Sources
- N. Gregory Mankiw, Principles of Economics
- Wikipedia: Money multiplier
- Mankiw, N. Gregory. Principles of Economics. Cengage Learning.
- Krugman, Paul R., and Robin Wells. Economics. Worth Publishers.
- Britannica, The Editors of Encyclopaedia. 'Money multiplier'. Encyclopedia Britannica.
- N. Gregory Mankiw, Principles of Economics, 9th Edition
- Frederic S. Mishkin, The Economics of Money, Banking, and Financial Markets, 13th Edition
- A-Level Economics — Banking and Credit Creation