- Reduced money supply:
An increase in reserve requirement would require banks to hold a higher proportion of their deposits in reserve at the central bank. This would reduce the amount of money available for banks to lend out, leading to a decrease in the money supply in the economy.
- Higher interest rates:
As the money supply decreases, the demand for loans could remain the same, leading to higher interest rates. Higher interest rates could discourage borrowing and investment, potentially leading to slower economic growth.
- Credit rationing:
With less money available, banks might become more selective in their lending practices. This could lead to credit rationing, where some businesses and individuals may have difficulty obtaining loans, even if they are creditworthy.
- Reduced economic growth:
A reduction in the money supply, higher interest rates, and credit rationing could all lead to a decrease in economic growth. This is because businesses may have difficulty expanding and investing, and consumers may have less money to spend.
- Financial instability:
In some cases, an increase in reserve requirement could lead to financial instability. This is because banks may become more vulnerable to shocks if they have less cash on hand.
It's important to note that the actual impact of an increase in reserve requirement would depend on a number of factors, including the magnitude of the increase, the economic conditions at the time, and the response of banks and financial markets.