Tuesday, 22 December 2020

The Multiplier Effecct

The reason central bank monetary policy works so well is because of the multiplier effect.

Basically, money we deposit in our banks doesn't just sit there collecting dust.  

The bank can and does lend that money to someone else.  

A hundred dollars deposited in a bank in in A, for example, may end up being loaned to an individual or a business in B.

After setting aside a small portion of each deposit as a reserve, banks are free to lend out the remainder.

The effect is to increase the money supply without any extra currency being printed.

What gets loaned out ends up in another bank to be subsequently loaned again.

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