The Reserve Requirement

• The reserve requirement is the amount of money a bank must hold in reserve that cannot be loaned out. Expressed as a percentage, such as 10 percent, this means that for every $1,000 deposited, $100 must be held back to meet the federal requirement. The lower the requirement, the more is available to lend as less needs to be held in reserve, and vice versa.
  
  

Creating Money

• Through the lending process, a bank actually creates money, directly impacting the money supply. For every $1,000 deposited into Bank A, $900 is available to lend. Say that money is then deposited into Bank B. That means $90 satisfies the reserve requirement, and the remaining $810 can be loaned out. Although only $1,000 was deposited into the banking system, Bank A loaned $900 and Bank B loaned $810 for a total of $1,710 loaned. The money supply increases as $710 extra was created by the banking system and recirculates as additional money without the Federal Reserve needing to print it.
  
  

When a Bank Lends Securites

• Lending or selling securities creates an influx of cash that, as long as reserve requirements are met, allows a bank to lend money without needing a deposit from consumers. The money supply increases when loans are made from the sale. As more loans are made and redeposited at other banks, only a percentage is held back to meet the reserve requirement, so that out of the original funds gained from the sale, several times that amount will be added to the money supply. However, many times when a bank lends securities, it's to cover a reserve deficit and does not affect the money supply in any way when this occurs.
  
  

When a Bank Buys Securities

• To buy securities, a bank spends money that otherwise would have been used as loanable funds, thereby decreasing the money supply. Oftentimes this is managed by the Federal Reserve, which will attempt to reduce the supply of money by selling securities to the banks at a better rate than they could get elsewhere.