Question

Suppose checkable deposits are $15 million and increase by $2 million due to an open market purchase. In addition, the required reserve ratio is 8 percent. Assuming there are no cash leakages and zero excess reserves, calculate each of the following:

a. Required reserves _____________________________________

b. Excess reserves _________________________________________

c. What is the money supply due to this initial injection in the economy? _________________________

d. What is the total change in checkable deposits?_______________________________________

e. How much of this was brought about by the banking system through the creation of loans? _______________________________

f. Is this considered contractionary or expansionary monetary policy?

Answer 1

(a) Required reserves ($ million) = Checkable deposits x Reserve ratio = 15 x 8% = 1.2

(b) Excess reserves ($ million) = Checkable deposits - Required reserves = 15 - 1.2 = 13.8

(c) Initial increase in money supply ($ million) = Excess reserves (available for credit lending) = 13.8

(d) Total change in checkable deposit ($ million) = Checkable deposit / Reserve ratio = 15 / 0.08 = 187.5

(e) Amount brought about my loan creation ($ million) = Total increase - Initial checkable deposit = 187.5 - 15 = 172.5

(f) This is an expansionary monetary policy since money supply increases as a result.