The reserve requirements is 5%, All other things equal, will the money supply expand more if...

The reserve requirements is 5%, All other things equal, will the money supply expand more if the Federal Reserve buys $2,000 worth of bonds or if someone deposits $2,000 they have been hiding in their freezer?

Expert Solution

The Reserve Requirement is 5%

We have to find out if the Money supply more if Federal Reserve buys $2,000 or if someone deposits $2,000 which they have been hiding in the freezer

If we consider the Reserve required ratio as "r",the money multiplier would be 1/r

In both cases the reserve in the economy will increase,as Reserve Requirement is 5%,then 2,000*(1/5)=$40,000

When money is deposited in the bank the money supply will be reduced by $2000,so the increase would be $40000-$2000 which equals $38000,lower by $2000 as compared to the action of the Federal Reserve.

Both the above deposits will lead to monetary expansion in their own ways.However money supply will expand more if Federal Reserve buys bonds worth $2,000.This is because when the Federal Reserve buys bonds worth $2,000 this would induce new money in the economy,whereas the money which was hidden in the freezer is already a part of the existing money supply .

Rahul Sunny answered 1 year ago

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