Question

7. The money creation process Suppose First Main Street Bank, Second Republic Bank, and Third Fidelity Bank all have zero excess reserves. The required reserve ratio is 10%. The Federal Reserve buys a government bond worth $250,000 from Alex, a client of First Main Street Bank. He deposits the money into his checking account at First Main Street Bank. Complete the following table to reflect any changes in First Main Street Bank's T-account (before the bank makes any new loans). Assets Liabilities Complete the following table to show the effect of a new deposit on excess and required reserves when the required reserve ratio is 10%. Hint: If the change is negative, be sure to enter the value as negative number Amount Deposited (Dollars) 250,000 Change in Excess Reserves (Dollars) Change in Required Reserves (Dollars)

Answer 1

The $250000 injection would result in an increase of 250000x(1/0.10) = 250000x10 = 2500000 in demand deposits.