Question

A bank holds its reserves as ________ and ________.

a. securities; loans

b. securities; deposits at the Federal Reserve

c. vault cash; deposits at the Federal Reserve

d. vault cash; loans

If the Fed wishes to decrease the supply of money and credit, it may sell government securities, raise the discount rate, or lower required reserve ratios.

True

False

Answer 1

1)

Banks hold cash in order to meet the reserve requirements so that if some one comes to withdraw money, Bonk must have some value with them. Bank holds these money either in the form of cash and also deposit at the central Bank(i.e. Federal Reserve).

Hence, the correct answer is (c) vault cash; deposits at the Federal Reserve.

2)

In order to decrease money supply Fed can bring some liquidity with himself by selling government bonds(not buying them). Also, In order to decrease money supply, Fed can reduce money multiplier. As, required reserve ratio is inversely related to money multiplier, Fed can decrease money supply by increasing reserve ratio(and not decreasing the reserve ratio).Fed can also decrease money supply. Similarly, increasing the bank rate will reduce the amount of borrows that commercial bank takes and thus it will also decrease money supply.

Thus Money supply will increase if reserve required ratio decreases. Thus statement is False.

Hence the correct answer is (b) False.