Impact of $10,000 Deposit on Canadian Banking System

What will be the impact on new deposits and additional loans with a $10,000 deposit in the Canadian banking system?

1) $10,000 of new deposits

2) $50,000 of new deposits

3) $500,000 of new deposits

4) $980,000 of additional loans

5) $1,000,000 of additional loans

Answer:

A $10,000 deposit with a 2% reserve ratio can lead to up to $500,000 in new deposits and $490,000 in additional loans due to the money multiplier effect in the fractional reserve banking system. Correct option 3.

The impact of a $10,000 deposit on the Canadian banking system with a reserve ratio of 2% can be significant. When a deposit is made, only a portion of it needs to be kept as reserves while the rest can be used to create new deposits through loans. This process can multiply the initial deposit and increase the money supply in the economy.

With a reserve ratio of 2%, banks are required to keep $200 (2% of $10,000) in reserves and can lend out the remaining $9,800. This initial $9,800 can then be deposited in other banks, where a portion is kept as reserves and the rest is lent out again. This cycle can continue, creating new deposits and loans along the way.

The total increase in deposits and loans is a result of the money multiplier effect, which is calculated as 1/reserve ratio. In this case, the money multiplier is 1/0.02 = 50. Therefore, the initial $10,000 deposit could potentially lead to up to $500,000 in new deposits and $490,000 in additional loans.

This example illustrates the power of fractional reserve banking in expanding the money supply within an economy. By leveraging deposits to create new loans, banks can fuel economic growth and support various financial activities.