Question

M1 includes funds that are readily accessible for spending. M1 consists of: (1) currency outside the U.S. Treasury, Federal Reserve Banks, and the vaults of depository institutions; (2) traveler's checks of nonbank issuers; (3) demand deposits; and (4) other checkable deposits (OCDs), which consist primarily of negotiable order of withdrawal (NOW) accounts at depository institutions and credit union share draft accounts. Seasonally adjusted M1 is calculated by summing currency, traveler's checks, demand deposits, and OCDs, each seasonally adjusted separately. The U.S. money supply (M1) was 4,020 USD Billion in March 2020 and it can be broken down as follows: $1,723 billion in currency, and $1,619 billion in checking deposits. Suppose the Fed decided to increase money supply by decreasing the reserve requirement from 10% to 5%. Assuming all banks were initially loaned up (had no excess reserves) and currency held outside of banks did not change, how large a change in the money supply would have resulted from the change in reserve requirement?

Answer 1

Answer -

Money multiplier when RR = 10 %

= 1/0.10

= 10

Money supply created= 1619 * 10

= $ 16190 billion

New money multiplier = 1/0.05

= 20

New money supply created = 1619*20

= $ 32380 billion

Change in money supply = 32380 - 16190

= $ 16190 billion

The money supply will increase by this amount as a result of fall in RR.