Question

The following is a simplified Balance Sheet for a Canadian bank:

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Great White North Bank

Balance Sheet

As at Dec. 31, 2017

Assets                                                                           Liabilities

Cash Reserves                          $ 20,000                      Demand Deposits                                  $100,000

Loans to Customers                       50,000                     

Investment in Securities                 30,000                                                 Equity

Fixed Assets                                 20,000                      Shareholders’ Equity                                 20,000

Total Assets                              $120,000                      Total Liabilities & Equity                      $120,000

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1. What percent of its demand deposits is this bank holding in cash reserves (the reserve ratio)? (1 mark)

2. If a deposit of $10,000 is made, how much of this is lent out to maintain the same reserve ratio? How much can bank deposits in the system potentially increase as a result?  

3. Show the balance sheet after the bank receives the $10,000 deposit and then makes loans from that deposit.

Answer 1

a) What percent of its demand deposits is this bank holding in cash reserves (the reserve ratio)?

Demand deposits = $100,000
Cash Reserves = $20,000

Reserve ratio = Cash reserves / Demand deposits
= $20,000 / $100,000
= 0.20
= 20%.

b) If a deposit of $10,000 is made, how much of this is lent out to maintain the same reserve ratio? How much can bank deposits in the system potentially increase as a result?

Now, New Deposit = $10,000

Required Reserve = Reserve ratio * New Deposit
= 0.20 * $10,000 = $2,000

Loanable Funds = New Deposit - Required Reserve
= $10,000 - $2,000 = $8,000

Money Multiplier = 1 / Required Reserve Ratio
= 1 / 0.20 = 5

Thus, Potential increase in the Bank Deposits = Money Multiplier * New Deposit = 5 * $10,000 = $50,000.

c) Show the balance sheet after the bank receives the $10,000 deposit and then makes loans from that deposit:

Assets ($)	Amount	Liabilities ($)	Amount
Cash Reserves	$22,000.00	Demand Deposits	$1,10,000.00
Loans to customers	$58,000.00
Investment in Securities	$30,000.00	Equity
Fixed Assets	$20,000.00	Shareholders' Equity	$20,000.00
Total Assets	$1,30,000.00	Total Liabilities & Equity	$1,30,000.00