Question

1) Explain and demonstrate graphically how targeting nonborrowed reserves can result in overnight rate instability.

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Answer 1

Non-Borrowed reserves are the Bank Reserves that are not borrowed from the Central Bank.

Hence it refers to the lack of participation by the State in the running of economy or the Banking Work of the State.

THUS RESERVES NOT OFFERED BY FEDERAL RESERVE TO COMMERCIAL BANKS WILL BE DEFINITELY ABOVE THE BANK RATE

THIS DIFFERENCE BETWEEN THE BANK RATE AND THE RATE OF NON BORROWED RESERVES LEADS TO INSTABILITY AND HENCE RESULTS IN OVERNIGHT RATE INSTABILITY.

Various Lenders occupy the Market and This is not secure where the rate is decided on the basis of Demand and Supply .

More Demand More the rate in order to maximise the profit of Lenders and thus it leads to INSTABILITY A LOT