Question

a. A bank has $50,000 in deposits and has $6,250 in reserves. What is the maximum amount that the ​money supply could increase if $10,000 is deposited to this bank and the reserve requirement ratio is 12.5%?

b. What is the change in the money supply when the Fed sells $500 worth of bonds and the required reserve ratio is 20 percent assuming banks hold no excess reserves?

Answer 1

a. The change in money supply due to change in the deposit is calculated by using a money multiplier.

Money multiplier = 1/ reserve ratio

Money multiplier = 1/12.5%

= 8

Change in money supply = 8* $10000

$80,000

The $10,000 deposit will increase the money supply by $80,000

b. The fed is selling $500 worth of bonds which means $500 is being taken out of the market, so the money supply will decrease and the amount it will decrease by is determined by the money multiplier.

Money multiplier = 1/ reserve ratio

=1/20%

= 5

Change in money supply

= -$500 * 5

= - $2500