<p>Under a currency board system, money in circulation has to be 100% backed by foreign reserves. Suppose the domestic currency (A\$) is 100% backed by a foreign currency (B\$), with a fixed 1:1 ratio. If there is initially A\$100 in circulation, there will be B\$100 in foreign reserves.</p>
<p>Suppose all the money in circulation (A\$100) is deposited in a bank that has a 10% reserve requirement. The bank then lends out A\$90. Now, the money supply is A\$190, but the foreign reserve of the currency board is only B\$100, which is less than the 100% backing required.</p>
<p>In the presence of fractional reserve banking that increases the domestic money supply, how do currency boards ensure that the domestic currency remains 100% backed by foreign reserves? What is wrong with my understanding of currency board systems?</p>

CC BY-SA 4.0
2021-08-17T04:39:54.340Z
Can you please back up your claim that "*Under a currency board system, **money** in circulation has to be 100% backed by foreign reserves.*" Seems to me that the original definition is about banknotes and coins, not money in general.
Giskard
CC BY-SA 4.0
2021-08-17T08:39:11.310Z
Not all money, just currency in circulation (proportionately small) plus *reserve money* (the money banks use to transact with each other and the "central bank"/currency board) must be 100% backed by foreign assets.
BrsG
<money-supply><banking><foreign-exchange><currency-peg>
How do currency boards maintain a 100% foreign reserve backing in the presence of fractional reserve banking?
Flux
# How do currency boards maintain a 100% foreign reserve backing in the presence of fractional reserve banking?

(Asked by: username_0 on 2021-08-17)

Under a currency board system, money in circulation has to be 100% backed by foreign reserves. Suppose the domestic currency (A\$) is 100% backed by a foreign currency (B\$), with a fixed 1:1 ratio. If there is initially A\$100 in circulation, there will be B\$100 in foreign reserves.

Suppose all the money in circulation (A\$100) is deposited in a bank that has a 10% reserve requirement. The bank then lends out A\$90. Now, the money supply is A\$190, but the foreign reserve of the currency board is only B\$100, which is less than the 100% backing required.

In the presence of fractional reserve banking that increases the domestic money supply, how do currency boards ensure that the domestic currency remains 100% backed by foreign reserves? What is wrong with my understanding of currency board systems?

**Tags:** money-supply, banking, foreign-exchange, currency-peg

> **Comments:**
> **username_1**: Can you please back up your claim that "*Under a currency board system, **money** in circulation has to be 100% backed by foreign reserves.*" Seems to me that the original definition is about banknotes and coins, not money in general.  
> **username_2**: Not all money, just currency in circulation (proportionately small) plus *reserve money* (the money banks use to transact with each other and the "central bank"/currency board) must be 100% backed by foreign assets.  

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## 0 answers

