Question

Short Answer

During the early 1930s, there were a number of bank failures. What did this do to the money supply? The central banks advocated open-market purchases. Would these purchases have reversed the change in the money supply and helped banks? Explain.

Answer 1

Answer - The large number of bank failures , will lead to the loss of the borrowing capacity of the banks. This will decrease the supply of money in the economy. The banks will run out of reserves and thus the money will not be created in the economy.

One way to tackle this problem is the expansionary policy of the central bank. This will provide the banks will additional funds for the adequate reserves and also give them some amount of excess reserves which will help to increase the supply of money. Hence buying of the open market securities will help to increase the supply of money in the economy