Question

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 National Bank has reserves of $20,000 and checkable deposits of $100,000. The reserve ratio is 20 percent. Households deposit $5000 in currency into the bank and that currency is added to reserves. What level of excess reserves does the bank now have?

Answer 1

1.

(a) Decrease in reserve requirement increases money multiplier (= 1 / required reserve ratio).

(b) Lower reserve ratio reduces required reserves, so excess reserves increase.

(c) Higher money multiplier (or higher excess reserves) will increase money supply by a greater amount.

2.

Required reserves (RR) = Deposit x Reserve ratio = 150,000 x 20% = 30,000

Actual reserve = RR + Excess reserve = 30,000 + 8,000 = 38,000

3.

Initially,

RR = 100,000 x 20% = 20,000

Excess reserve (ER) = Total rserve - RR = 20,000 - 20,000 = 0

After new deposit,

Increase in RR = 5,000 x 20% = 1,000

Increase in ER = 5,000 - 1,000 = 4,000

New ER = 0 + 4,000 = 4,000