Question

8. The reserve requirement, open market operations, and the money supply Assume that banks do not...

8. The reserve requirement, open market operations, and the money supply

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 $500. 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)
25
10

A lower reserve requirement is associated with a (larger/smaller)   money supply.

Suppose the Federal Reserve wants to increase the money supply by $200. Again, you can assume that banks do not hold excess reserves and that households do not hold currency. If the reserve requirement is 10%, the Fed will use open-market operations to (buy/sell) __$_______ 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 (rise/fall) to (1/2.5/4/10) . Under these conditions, the Fed would need to (buy/sell) _$________ 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 prevent banks from lending out required reserves.

The Fed cannot control the amount of money that households choose to hold as currency.

The Fed cannot control whether and to what extent banks hold excess reserves.

Homework Answers

Answer #1

1. Multiplier = 1/Reserve requirement = 1/0.25 = 4

Multiplier = 1/0.10 = 10

Money supply when r = 25% is Multiplier x Total reserves = 4 x 500 = $ 2000

Money supply with r = 10% is 10 x 500 = $ 5000

Lower reserve requirement means Larger money supply.

When Fed wants to increase money supply:

200 = Multiplier x Buying bonds

200 = 10 x Buying bonds

Buying bonds = 20

Fed should buy $ 20 worth of government bonds.

Money multiplier fall from 1/0.10 = 10 to 1/0.25 = 4. So, Fall to 4.

Now, 200 = 4 x Buying bonds

Buying bonds = $ 50

So, Fed should buy $ 50 worth of US government bonds.

The Fed cannot control the amount of money that households choose to hold as currency.

The Fed cannot control whether and to what extent banks hold excess reserves.

Know the answer?
Your Answer:

Post as a guest

Your Name:

What's your source?

Earn Coins

Coins can be redeemed for fabulous gifts.

Not the answer you're looking for?
Ask your own homework help question
Similar Questions
8. The reserve requirement, open market operations, and the money supply Assume that banks do not...
8. The reserve requirement, open market operations, and the money supply 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 $300. 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)           5   (0.5,...
Suppose that the reserve requirement for checking deposits is 10 percent and that banks do not...
Suppose that the reserve requirement for checking deposits is 10 percent and that banks do not hold any excess reserves. If the Fed sells $4 million of government bonds, what is the effect on the economy’s reserves and money supply? Now suppose the Fed lowers the reserve requirement 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...
suppose that the reserve requirement is $20 percent. Also assume that banks do not hold excess...
suppose that the reserve requirement is $20 percent. Also assume that banks do not hold excess reserves and there is no cash held by the public. The Fed decides that it wants to expand the money supply by $80 million. a- if the Fed is using open-market operations, will it buy or sell bonds? b- what quantity of bonds does the Fed need to buy or sell to accomplish the goal? Explain your reasoning.
Suppose that the required reserve ratio is 8% (i.e. rr = RR/D = 0.08), banks hold...
Suppose that the required reserve ratio is 8% (i.e. rr = RR/D = 0.08), banks hold 5% of checking account deposits as excess reserves (i.e. e = ER/D = 0.05), and the currency-to-deposit ratio is 0.5 (i.e. c = C/D = 0.5).      a.   Use this information to calculate the money multiplier.      b.   How would your answers to part (a) change if banks become concerned about risks             involved in making loans and now choose to hold 20% of...
Suppose the Federal Reserve conducts and open market purchase of $800. The nonbank public holds the...
Suppose the Federal Reserve conducts and open market purchase of $800. The nonbank public holds the same fraction of currency relative to deposits. Banks hold the same fraction of excess reserves, and the Fed keeps the reserve requirement unchanged. Compute the change in the monetary base, and the change in the money supply and be sure to indicate the direction of the change in both variables.
1. How would a decrease in the reserve requirement affect the (a) size of the money...
1. How would a decrease in the reserve requirement affect the (a) size of the money multiplier, (b) amount of excess reserves in the banking system, and (c) extent to which the system could expand the money supply through the creation of checkable deposits via loans? 2. Suppose that Security Bank has excess reserves of $8,000 and checkable deposits of $150,000. If the reserve ratio is 20 percent, what is the size of the bank’s actual reserves? 3. The Third...
Suppose currency is $500 billion, deposits are $700 billion, the reserve requirement is 10%, and excess...
Suppose currency is $500 billion, deposits are $700 billion, the reserve requirement is 10%, and excess reserves are $10 billion. Calculate the money supply, currency deposit ratio, excess reserve ratio and the money multiplier. Suppose the central bank conducts an open market purchase of $500 billion. Assume the ratios you calculated stay the same, predict the effect on the money supply.
1. Suppose banks hold 10% reserves (although there is no legal reserve requirement banks still hold...
1. Suppose banks hold 10% reserves (although there is no legal reserve requirement banks still hold reserves for safety reasons). Suppose the public sector printed $10,000 in currency to pay its bills and suppose households deposited the currency into the banking system. How much of an increase would there be in the level of demand deposits and loans? 2. What would happen if, afterwards, the central bank sold $5000 in securities to buyers in the secondary market?
1. Suppose banks hold 10% reserves (although there is no legal reserve requirement banks still hold...
1. Suppose banks hold 10% reserves (although there is no legal reserve requirement banks still hold reserves for safety reasons). Suppose the public sector printed $10,000 in currency to pay its bills and suppose households deposited the currency into the banking system. How much of an increase would there be in the level of demand deposits and loans? 2. What would happen if, afterwards, the central bank sold $5000 in securities to buyers in the secondary market?
10. Problems and Applications Q10 Assume that the banking system has total reserves of $180 billion....
10. Problems and Applications Q10 Assume that the banking system has total reserves of $180 billion. Assume also that required reserves are 20 percent of checking deposits and that banks hold no excess reserves and households hold no currency. The money multiplier is ____ The money supply is____$ billion. Suppose the Fed raises required reserves to 25 percent of deposits. The new money multiplier is____ , and the money supply ( increases/ decreases) to____ $billion.
ADVERTISEMENT
Need Online Homework Help?

Get Answers For Free
Most questions answered within 1 hours.

Ask a Question
ADVERTISEMENT