Assume that the banking system has total reserves of $100 million. Assume also that the reserve requirement for checking deposits is 10 percent and that banks do not hold any excess reserves. There is also no currency held by households.
a) What is the money multiplier? What is the money supply?
b) If the FED raises required reserves to 20 percent of deposits, what are the change in reserves and the change in money supply?
c) Now suppose the FED lowers the requirement from 10 percent to 5 percent, but banks choose to hold another 5 percent of deposits as excess reserves. Why might banks do so? What is the overall change in the money multiplier and the money supply as a result of these actions?
d) If the FED sells $1 million of government bonds, what is the effect on the economy's reserves and money supply? Use 10 percent required reserve ratio.
e) If the FED buys $5 million of government bonds, what is the effect on the economy's reserves and money supply? Use 10 percent required reserve ratio.
Assume that the banking system has total reserves of $100 million. Assume also that the reserve requirement for checking deposits is 10 percent and that banks do not hold any excess reserves. There is also no currency held by households.
a) What is the money multiplier? What is the money supply?
b) If the FED raises required reserves to 20 percent of deposits, what are the change in reserves and the change in money supply?
c) Now suppose the FED lowers the requirement from 10 percent to 5 percent, but banks choose to hold another 5 percent of deposits as excess reserves. Why might banks do so? What is the overall change in the money multiplier and the money supply as a result of these actions?
d) If the FED sells $1 million of government bonds, what is the effect on the economy's reserves and money supply? Use 10 percent required reserve ratio.
e) If the FED buys $5 million of government bonds, what is the effect on the economy's reserves and money supply? Use 10 percent required reserve ratio.
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Assume that banks do not hold excess reserves and that households do not hold currency, so the only form of money is demand deposits. To simplify the analysis, suppose the banking system has total reserves of $400. Determine the money multiplier and the money supply for each reserve requirement listed in the following table.
| Reserve Requirement | Simple Money Multiplier | Money Supply |
|---|---|---|
| (Percent) | (Dollars) | |
| 20 | Ā | Ā |
| 10 | Ā | Ā |
A higher reserve requirement is associated with a money supply.
Suppose the Federal Reserve wants to increase the money supply by $200. Again, you can assume that banks do not hold excess reserves and that households do not hold currency. If the reserve requirement is 10%, the Fed will use open-market operations to worth of U.S. government bonds.
Now, suppose that, rather than immediately lending out all excess reserves, banks begin holding some excess reserves due to uncertain economic conditions. Specifically, banks increase the percentage of deposits held as reserves from 10% to 25%. This increase in the reserve ratio causes the money multiplier to to . Under these conditions, the Fed would need to worth of U.S. government bonds in order to increase the money supply by $200.
Which of the following statements help to explain why, in the real world, the Fed cannot precisely control the money supply? Check all that apply.
- The Fed cannot control the amount of money that households choose to hold as currency.
- The Fed cannot prevent banks from lending out required reserves.
- The Fed cannot control whether and to what extent banks hold excess reserves.
