The Versatility of Money Multiplier Under Basel III Regulations

Abstract

The fractional reserve theory of money creation only considers the reserve requirement but ignores prudential regulations. We study the impacts of three prudential regulations under the Basel III framework on the commercial bank's ability to create money. Using a balance sheet approach, we formulate the corresponding maximum money multiplier under each regulation. We find that in addition to the concerned minimum required ratio, the banking system's liquidity and equity positions also play important roles in determining the maximum money supply.

Keywords: prudential regulations, money creation, balance sheet approach, liquidity and equity position, money multiplier

JEL Classification: E51, G28, G18, E60