A significant amount of legislation passed in the 20th century sought to reduce the risk of future economic events like the liquidity crisis experienced by banks during the Panic of 1907. Which of the following policies would increase the risk of a liquidity crisis?
Banks in need of cash are offered low-interest loans from the Federal Reserve.
Banks are required to store a larger percentage of depositor funds in their vaults.
Banks are required to store a smaller percentage of depositor funds in their vaults.
Banks in need of cash are offered low-interest loans from other banks.
1 answer
The policy that would increase the risk of a liquidity crisis is "Banks are required to store a smaller percentage of depositor funds in their vaults." This policy reduces the amount of reserves that banks hold, which makes them more vulnerable to a sudden demand for withdrawals. In times of financial stress, depositors may rush to withdraw their money, and if banks have insufficient reserves, they may not be able to meet these demands, resulting in a liquidity crisis. The other policies listed would help to prevent or mitigate liquidity crises.