ECON-E 202 Lecture Notes - Lecture 25: Fractional-Reserve Banking, List Of Recurring Futurama Characters, Money Supply

6. The purpose of this exercise is to illustrate the multiple expansion of bank deposits in a fractional- reserve banking system. Assume the Fed’s legal reserve requirement is 10%

(Formula)

1. a. Required reserves = Required reserve ratio ´ checkable deposits

b. Actual reserves = Required reserves + excess reserves

The consolidated balance sheet of the U.S. banking system indicates:

Assets Liabilities

Reserves $40,000 Checkable deposits $100,000

a. The simple money multiplier equals _______________. Formula:

b. The banking system has excess reserves of $_______________.

Formula (write out formula #1a):

Formula (write out formula #1b):

c. Loans and the money supply can be expanded by a maximum of $_______________.

For the next six questions, consider an economy with only two non-identical banks, called Bank One and Bank Two. In addition to this information, members of the public in this economy hold $6000 in cash, and there are no travelers' checks.

Partial balance sheet information for each bank is given below:

Bank One

Cash in bank $3500

Equity (net worth) $2150

US government bonds $1650

Total savings deposits $14,000

Deposit in the Federal Reserve $5000

Total checking deposits $54,000

Bank Two: US government bonds $950

Total checking deposits $46,000

Cash in bank $2000

Deposit in the Fed $4000

Equity $1850

Total savings deposits $11,000

Questions.... ( rr= 10% or .1)

1.) Economys monetary base combining actual and potential reserves?

2.) Money supply using simplified definition?

3.) Bank two required reserves?

4.) desired excess reserves ratio?

6. we noted that in ancient times money was normally created by government. However, under the modern banking system in the U.S. and other developed countries, money is normally created by Banks. The process begins when a depositor brings, let’s say, $100 in M1 into the bank for deposit. The bank accepts the deposit and creates a Demand Deposit (DD) for the customer in the amount of $100. The bank now has $100 in liquid funds it did not have before. As discussed in class, there are three things the bank can do with this new money: 1) It can keep the money as Vault Cash (a lot of it inside of ATM machines), 2) It can place the money on deposit at the Federal Reserve Bank (Fed) to be held as Reserves, 3) It can purchase securities for the bank’s securities portfolio. The contents of the bank’s security portfolio will not be included in M1. What is it about the definition of M1 that precludes the inclusion of the bank’s securities portfolio?

7. As discussed in class, all bank deposits at the Federal Reserve Bank (Fed) qualify as Reserves. However, not all Reserves are the same. The Fed makes a distinction between Required Reserves, and Excess Reserves. What is the difference between Required Reserves and Excess Reserves?