when a customer makes a deposit into a short term deposit account the banking institution can lend one minus the reserve requirement to someone else while the original depositor maintains ownership of their initial deposit the funds created through lending are generated based on those funds if a second borrower subsequently deposits funds received from the lending institution this raises the value of the money supply even though no additional physical currency actually exists to support the new amount 
the money supply multiplier effect can be seen in a country s banking system an increase in bank lending should translate to an expansion of a country s money supply the size of the multiplier depends on the percentage of deposits that banks are required to hold as reserves when the reserve requirement decreases the money supply reserve multiplier increases and vice versa back in 2020 prior to the covid 19 pandemic the fed mandated that institutions with more than 127 5 million have reserves of 10 of their total deposits however as the pandemic sparked an economic crisis the fed took a dramatic step on march 26 2020 it reduced the reserve ratio to 0 essentially eliminating these requirements entirely to free up liquidity 2most economists view the money multiplier in terms of reserve dollars and that is what the money multiplier formula is based on theoretically this leads to a money supply reserve multiplier formula of msrm 1 rrr where msrm money supply reserve multiplier rrr reserve requirement ratio begin aligned text msrm frac 1 text rrr textbf where text msrm text money supply reserve multiplier text rrr text reserve requirement ratio end aligned msrm rrr1 where msrm money supply reserve multiplierrrr reserve requirement ratio for example in the case of banks with the highest required reserve requirement ratio 10 prior to covid 19 their money supply reserve multiplier would be 10 1 0 10 this means every one dollar of reserves should have 10 in money supply deposits if the reserve requirement is 10 then the money supply reserve multiplier is 10 and the money supply should be 10 times reserves when a reserve requirement is 10 this also means that a bank can lend 90 of its deposits investopedia sabrina jianglooking at the money multiplier in terms of reserves helps one to understand the amount of expected money supply in this example 651 equates to reserves of 65 13 if banks are efficiently using all of their deposits lending out 90 then reserves of 65 should result in a money supply of 651 if banks are lending more than their reserve requirement allows then their multiplier will be higher creating more money supply if banks are lending less then their multiplier will be lower and the money supply will also be lower moreover when 10 banks were involved in creating total deposits of 651 32 these banks generated a new money supply of 586 19 for a money supply increase of 90 of the deposits types of multipliersa multiplier may occur in a variety of ways impacting different instruments or balances the most common types of multipliers are below impact of multiplier effectthe multiplier effect has several implications on an economy first the multiplier effect often has a positive impact on the economy and economic growth instead of being limited to the actual quantity of funds in possession or in circulation the multiplier effect can scale programs and allow for more efficient use of capital multiplier effects may also impact economies in different ways first economies experience direct impacts when an economic factor is directly attributed to an entity for example when a government awards a tax incentive to an individual that individual is said to have received the direct financial impact however the multiplier effect incorporates two additional impacts the indirect impact and the induced impact the indirect impact of the government benefit above is that the individual takes their tax benefit and spends it these funds do not sit idly by in one bank account it may be spread across a dozen different businesses potentially relating to grocery stores restaurants car dealerships or online purchases the last impact induced impact highlights the true benefit of multiple effects although a single individual received a tax benefit many companies and their employees benefited for example imagine the individual dined at a restaurant and left a tip that tip would now be the benefit of the waitstaff who may buy a crafted item at a local market and increase the income of a local artist as currency flows through an economy more than one individual or entity may residually receive benefits from a financial instrument therefore the single tax benefit is said to have a multiplier effect on the economy 