ECO 4935 Chapter 10

Money supply multiplier is more accurate because it:

-Allows people to hold cash -Allows banks to hold excess reserves -Allows bank accounts to have different reserve ratios

What can the seller do when the Fed buys government securities from a nonpublic bank?

-Deposit the check drawn on the New York Fed into his or her own bank account *Reserves are increased -Cash the check and hold on to the cash. *Currency is increased

Monetary base is another term for:

-High powered money -Narrow money

What happens when the Fed buys government securities from a bank?

-It can redeem these checks drawn on the New York Fed for currency -It can deposit the check with the Fed and hold the funds as reserves. -Either currency or reserves are increased

What happens when the Federal Reserve buys foreign currency in exchange for domestic currency?

-The supply of dollars in the foreign exchange market increases -Bank reserves increased when purchasing foreign currency from a commercial bank.

Making changes to the monetary base will do what?

Change the money supply

Monetary Base

Currency in circulation + bank reserves + US Treasury currency in circulation. It is one of the narrowest measurements of the money supply.

Which of the following are included in the monetary base?

Currency in circulation, bank reserves, and US Treasury currency in circulation

What happens when someone withdraws money from a checking account?

Currency is increased and bank reserves are decreased

What can be very high in economies where the need for cash is very high because of underdeveloped financial markets?

Currency ratio

General Account

Account that the Treasury pays for the purchases by the federal government.

What does a smaller money supply multiplier imply?

That monetary policy will be less effective.

The dollar amount of a bank's reserve requirement is based on what?

The amount of a bank's net total transaction accounts. -Basically demand deposits less amounts due from other depository institutions and less cash items in the process of collection.

Reserve Requirement

The amount of funds that a bank must hold in reserves against specific deposit accounts.

Who has sole legal authority to set the required reserve ratio that establishes the reserve requirement for each bank?

The board of governors of the Federal Reserve

Money Supply Formula

currency + deposits

Monetary Base Formula

currency in circulation + reserves

Currency Ratio

currency/deposits

Excess Reserves Ratio

excess reserves/deposits

What happens when the Fed makes a discount loan to a commercial bank?

It credits the commercial bank's account at the Fed *Increasing the "reserves" portion of the monetary base.

An decrease in excess or required reserves leads to what?

A larger money multiplier

An increase in excess or required reserves leads to what?

A smaller money supply multiplier

What is one way the Fed can reduce the monetary base?

An open market sale of government securities

Why would an increase in re be a concern?

Because it could be an indication of the onset of a credit crunch.

What was the Fed doing under quantitative easing?

Buying a variety of financial assets from commercial banks -Bank reserves increased significantly, but lending did not. *Money supply did not grow rapidly

What happens when a discount loan is repaid by a depository institution?

Decreases the monetary base.

Why is the simple money multiplier too simple to demonstrate reality?

It assumes banks lend out all of their excess reserves

What is the Treasury Department responsible for?

Foreign exchange policy

What does an increase in rr result in?

In a slower growth rate of the money supply and, thus, pushes the economy into a recession. *The outcome is weaker banks, not "safer" banks.

With this simple assumption rr+re<1 , what is the result in a change in k, the currency ratio?

It will change the money supply multiplier in the opposite direction because the percentage change in the numerator is less than the percentage change in the denominator. -Increase in k leads to a smaller msm -Decrease in k leads to a larger mom

If US Treasury and administration officials decide they want to see the dollar rise in value against the euro, what will happen to the monetary base?

It will increase as bank reserves increase.

What does less banking lead to?

Less new money is being created and thus, a smaller money supply multiplier

Reserves Formula

Required Reserves + Excess Reserves

Bank Reserves Formula

Reservesnon+ Borrowed Reserves

Exemption Amount

The first few million dollars of net transaction accounts have been exempt from the reserve requirement. -Since 1982

What is a reason an economy can have a very high currency ratio?

The public does not trust the banking system. -They hold more currency, k increases

If a central bank wants to pursue an expansionary monetary policy, it should change policies to ensure what happens to the required reserves ratio?

The required reserves ratio should be reduced.

Required Reserves Ratio

required reserves/ deposits