Question

Question 2

Suppose a bank has $10,000 in deposits and $8,000 in loans. It has loaned out all it can.

1. What is the reserve ratio? Determine the reserve requirement ratio. ( 2 marks)
2. What is the money multiplier? Determine the value of the money multiplier. (1 mark)
3. What is the total money supply created through the credit creation process?
4. Explain the reasons why the central bank cannot fully control the money supply?

Answer 1

1 - Reserves = 10000 - 8000

= $ 2000

Reserve ratio = 2000/10000*100

= 20 %

2 - Money multiplier = 1/reserve ratio

= 1/0.20

= 5

3 - Total money supply created

= 8000*5

= $ 40000

4 - The fed cannot control the amount of money that the consumers are willing to deposit in the banks or the the loans they take. It cannot control the consumer habits. Also the fed does not decide how much amount the banks have to compulsorily lend to the general public. Hence the federal bank can only frame out the policies but cannot control the money supply.