Credit Creation and Money Multiplier

Question 1

What is the method use to create credit?

Answer 1

Fractional reserve banking

Question 2

What does the commercial bank do to make a profit?

Answer 2

This will take deposits from savers and lend to people and give the savers a rate of return.
Banks will charge a high interest rate to the borrowers. The higher interest rate minus the rate of return to the saver is the profit.

Question 3

Explain frictional reserve banking.

Answer 3

Banks will take deposits from savers and calculate how much money they will actually keep here. They take this amount and lend it out.

This is spent in the economy, generating an income for someone else. This money may return back to the banking system through another deposit. The cycle continues.

Question 4

What is the potential limitation to this method?

Answer 4

It is sustainable as long as we dont all demand money back together at the same time.