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Fractional-reserve banking

Fractional-reserve banking Definition

In economics, particularly in financial economics, fractional-reserve banking is the near-universal practice of banks of retaining only a fraction of their deposits to satisfy demands for withdrawals, lending the remainder at interest to obtain income that can be used to pay interest to depositors and provide profits for the banks' owners.

Fractional-reserve banking allows for the possibility of a bank run in which the depositors collectively attempt to withdraw more money than is in the possession of the bank, leading to bankruptcy. It also increases the money supply through a mechanism called the deposit creation multiplier, explained below, which can lead to inflation if reserves are too low. Most governments impose strictly-enforced reserve requirements on banks, with the exact fraction of deposits that must be kept in reserve generally set by a central bank.








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