ECON 1BB3 Lecture Notes - Lecture 6: Open Market Operation, Bank Reserves, Reserve Requirement

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lilacrabbit901

5 May 2016

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McMaster University

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Economics

Course

ECON 1BB3

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ECON 1BB3 Full Course Notes

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Wealth is how much money you have in your bank account. Why is there more currency than we would expect in canada/usa. I have 000 in currency and there is no banking system. M = c + d = 50 000 + 0 = 000. Now, i deposit my 000 into a bank. Current money supply = m = c + d = 3125 + 50 000 + 25 000 + 12 500 + 6250 = 875. Currency is money in the hands of the public. Once money is put in the bank, they are no longer currency, they become reserves. Liquidity how easy it is to convert an asset into the medium of exchange: which of the following has intrinsic value, gold coin, coin, bank account, personal cheque. Increase and banks must decrease lending a) b: decrease and banks increase lending, decrease and banks decrease lending.

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The money supply consists of Currency + Checkable Deposits (NOT including currency in bank's vaults and NOT including banks' deposits at the Fed). Before the First National Bank made the $90 loan, no one outside the bank held any currency, and Checkable Deposits were equal to 100, so the money supply was equal to 0 + 100 = 100.

When the First National Bank made the loan, the borrower received $90 in cash, but checkable deposits did not fall. Thus, the money supply was equal to $ (..........)of currency in the hands of the non-bank public plus $(........) of Deposits, for a total of $(............).

While cleaning your apartment, you find a $50 bill under the sofa cushion. You deposit the $50 into your checking account. If the reserve requirement is 20%, what is the maximum amount that the money supply could ultimately increase? (Remember that the money supply is Currency + Deposits - and that the amount of Currency fell by $50 when you put the cash in the bank).

The change in currency would be (...............) and the maximum ultimate change in deposits would be at most(..............) , so the money supply would rise by at most(..........) .

Suppose you deposit the $50, but the bank chooses not to lend any of its excess reserves. By how much would the money supply ultimately increase in this case?

The change in currency would be (................) and the ultimate change in deposits would be(............) , so the money supply would rise by(...........) .

raspberrywasp757

1.Consider an economy in which initially there are no banks. Suppose that one consumer initially holds the entire money supply in the form of $1,000 in currency. Then assume a new bank is opened, The First National Bank, and the consumer deposits the entire $1,000 into the bank. Based on this scenario answer the following questions:

a Assuming that the First National Bank has a 100% reserve ratio, use a T account to show what effect this deposit will have.

b Still assuming a 100% reserve ratio, explain what effect this deposit will have on the economyâs total money supply.

c Show how the First National Banks T account will look, if instead it has a 10% reserve ratio and holds no excess reserves. (0.5 mark)

d Following form c. if other banks now open up and face a 10% reserve ratio, and assuming that every consumer holds her or his money as deposits instead of currency, explain what effect the initial deposit will eventually have on the money supply.

e Are consumers as a group wealthier when the banking system chooses a 10% reserve ratio. Explain the reasons for your answer.

Consider the following information about the banking system:

Reserves (R) = $500 billion

Currency (C) = $400 billion

Required Reserves (RR) = $80 billion

Required Reserve Ratio (r) = 0.1

a. What is the value of excess reserves in the banking system?

b. What is the value of deposits in the banking system?

c. What is the value of the money supply (M1)?

d. What is the size of the monetary base?

e. What is the value of the money multiplier? What does it tell us?

f. If the excess reserve ratio increases by 0.06, while the value of the required reserve ratio and currency to deposits ratio stay the same, what will be the value of the money multiplier? The value of the money supply?

g. If the Fed wishes to have the value of the money supply in the economy at the initial level (part c), how should it respond?

h. How much in government bonds should the Fed sell or buy?

i. If the Fed buys from Chase 10 million in government bonds, given the money multiplier in part f, what would be the change in the money supply?

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ECON 1BB3 Lecture Notes - Lecture 6: Open Market Operation, Bank Reserves, Reserve Requirement

ECON 1BB3 Full Course Notes

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