A bank's reserves are any deposits that it holds that are not loaned out. In this case, Southeast Mutual Bank has $200,000 in demand deposits and has made $130,000 in loans. Therefore, its reserves are as follows:
| Reserves | = | Demand Deposits−Loans |
| = | $200,000−$130,000 |
| = | $70,000 |
A bank's required reserves are the portion of its demand deposits that it needs to hold in reserves. The amount of required reserves depends on the legal reserve requirement (in this case 10%) set by the Fed. Therefore, Southeast Mutual needs to hold 10% of its $200,000 of demand deposits in reserve:
Note: The reserve requirement is often referred to as the required reserve ratio in decimal form.
| Required Reserves | = | Demand Deposits×Required Reserve Ratio |
| = | $200,000×0.1 |
| = | $20,000 |
Any reserves that a bank holds beyond its required reserves are excess reserves. In this case, Southeast Mutual Bank holds $70,000 in reserves, but it is required by the Fed to hold only $20,000 in reserves. Therefore, it holds $70,000−$20,000=$50,000 in excess reserves and could lend out that amount, if it desired.
Because banks pay interest to depositors and earn interest on money lent, banks generally do not maintain high excess reserves.
