If the chartered banks decide to maintain an average reserve ratio of zero, what would be the size of money multiplier
To determine the size of the money multiplier when the chartered banks maintain an average reserve ratio of zero, we need to understand the concept of money multiplier.
The money multiplier represents the maximum potential increase in the money supply that can be generated through the fractional reserve banking system. It is calculated as the reciprocal of the reserve ratio.
The reserve ratio is the percentage of deposits that banks are required to hold as reserves and not lend out. In this case, if the average reserve ratio is zero, it means that banks are not required to hold any reserves and can lend out the entire amount of deposits.
Since the reserve ratio is zero, the reciprocal of zero is undefined in mathematics. In this scenario, there would be no reserve requirements, and the money multiplier would technically be infinite. This means that banks can create an unlimited amount of money through lending.
However, it is important to note that having a reserve ratio of zero is an extreme and unrealistic scenario. In practice, central banks typically set a positive reserve ratio to regulate the money supply and maintain stability in the financial system.