AP Macro: Edge Ex: Money Creation

Assume Sally receives $500 in circulating currency as a graduation gift. She deposits the $500 into her bank as a demand deposit. Based on this deposit, how much did the money supply immediately change, and what is the maximum possible change in the money supply if the reserve requirement is 20%?

$0 immediate change, $2,000 maximum possible change

Assets Liabilities Required Reserves - 25,000 Demand Deposits - 250,000 Excess Reserves - 0 Owners Equity - 0 Loans - 215,000 Gov't Bonds - 10,000 Suppose the central bank purchases $10,000 in government bonds from the Macro Bank. Calculate the maximum amount that the money supply can change as a result of the $10,000 purchase. Assume that this bank is complying with the reserves required by the central bank.

$100,000

Using the information in the table, calculate the demand deposits possible if this bank complies with a reserve ratio of 20% and maintains no excess reserves. Reserves - $25,000

$125,000

Assume that the Federal Reserve buys $5 million in government bonds on the open market. As a result of the open market purchase, calculate the maximum increase in the money supply in the banking system (assume banks hold no excess reserves, and there are no currency drains). For this question, the reserve requirement is 20%.

$25 million

If a deposit of $500 in circulating currency is deposited into Bank A, with a 10 percent reserve requirement, what is the maximum change in the money supply possible throughout the banking system?

$4,500

Assume the Federal Reserve buys $10,000 of government bonds from a bank as a part of open market operations. If the reserve ratio is 0.2, the maximum change in loans throughout the banking system will be:

$40,000

Assets Liabilities Reserves - 20,000 Demand Deposits - 150,000 Loans - 100,000 Owners Equity - 0 Gov't Bonds - 30,000 Use the above table to calculate the maximum possible change in loans for this bank if the reserve ratio is 10%.

$5,000 (On the above balance sheet, the reserves include both required and excess reserves. Since demand deposits are $150,000, 10% of $150,000 equals $15,000. Therefore, there will be $5,000 in excess reserves for this bank ($20,000 - $15,000).

The formula for the maximum money multiplier is:

1/(reserve ratio)

Assets Total Reserves: $18,000 Government Bonds: $70,000 Loans: $13,000 Liabilities Demand Deposits: $100,000 A commercial bank is facing the conditions given above. If the reserve requirement is 12 percent and the bank does not sell any government bonds (sometimes called government securities), the maximum amount of additional lending this bank can undertake is:

$6,000 (The demand deposits are $100,000, and the reserve requirement is 12 percent, so this bank must keep $12,000 in required reserves. Since total reserves include both required and excess reserves, $18,000 (total reserves) minus $12,000 (required reserves) equals $6,000 (excess reserves). Excess reserves are the only reserves that can be used for lending, so $6,000 is available for lending.)

If a commercial bank has no excess reserves and the reserve requirement is 20%, what is the value of new loans this single bank can issue if a new customer deposits $1,000?

$800 (When an individual makes a deposit at a bank, that bank can only lend out the excess reserves from that deposit. The $1,000 deposit has a $200 reserve requirement (20% of $1,000), so $1,000 - 200 provides excess reserves of $800. The multiple expansion only takes place among all the banks within an economy over time assuming all excess reserves are loaned out and there are no currency drains.)

If, upon receiving a checking deposit of $600, a bank's excess reserves increased by $510, the required reserve ratio must be:

15% (Since the excess reserves increased by $510 on a $600 deposit, it means that the required reserves are $90. $90/$600 x 100 = 15%)

Which of the following is an open market operation?

A central bank purchasing bonds

Which of the following most undermines the ability of a nation's currency to store value?

A decrease in the purchasing power of the currency

The required reserve ratio is 20% and the Federal Reserve buys $1 million in securities. If there are no leakages and banks do not hold excess reserves, then which of the following is the maximum change in the money supply?

An increase of $5 million

Assets Liabilities Required Reserves - 5,000 Demand Deposits - 20,000 Excess Reserves - 0 Loans - 10,000 Owners Equity - 0 Gov't Bonds - 5,000 Suppose that the central bank purchases $5,000 worth of bonds from Macro Bank. What will be the change in the dollar value of excess reserves and demand deposits immediately after the purchase? (required ratio is 25%:)

Excess reserves +$5,000, Demand Deposits +$0

Which of the following is true of the quantity of money demanded?

It falls when interest rates rise, because the opportunity cost of holding money increases.

Assume that the reserve requirement is 15 percent and that a bank receives a demand deposit of $300. Which of the following will most likely occur in the bank's balance sheet?

Liabilities - increase by 300 Required Reserves - increase by 45 (The question states that the demand deposits increased by $300. The demand deposits are considered liabilities of the bank, and an increase in demand deposits leads to an increase in liabilities. The problem states that the reserve requirement is 15%. This is as a percent of the demand deposit. By multiplying $300 x .15 (15%), we find that the required reserve for this deposit will be $45. Since the bank's deposits increased, the required reserves must also increase.)

During a period of rising nominal interest rates, what will be the effect on bond prices?

They decrease

Which of the following measures of economic activity would always be consistent with a prolonged recession?

an unemployment rate of 9%

The Federal Reserve can increase the money supply by:

buying government bonds on the open market

Which of the following would be included as a liability on a commercial bank's balance sheet?

demand deposits

Under a fractional reserve banking system, banks are required to:

keep part of their demand deposits as reserves.

If the reserve ratio was set at 100%, then banks could:

make no loans

If a bank customer deposits $1,000 of circulating currency into her demand deposit, what will be the immediate effect on M1?

no change (M1 is the total of circulating currency and demand deposits. Since the circulating currency was deposited into a demand deposit, circulating currency decreased by $1,000, and demand deposits increased by $1,000, bringing about no change in M1.)

The money-creating ability of the banking system will be less than the maximum amount indicated by the money multiplier when:

people hold a portion of their money in the form of currency.

Which of the following types of money demand is determined by the level of nominal GDP?

transaction demand correct