A bank has the following assets and liabilities on its balance sheet: Checkable deposits = 160,...

A bank has the following assets and liabilities on its balance sheet: Checkable deposits = 160, Deposits at the FED = 15, Vault cash = 5 Savings deposits = 150, Loans to businesses = 200, Borrowing from the FED = 30, lending to another bank = 20, and Treasury bills = 120.

a. Show this bank’s balance sheet, including capital.

b. Show the effects on the balance sheet of a 7% default rate on Loans to business.

c. (Back to the original numbers) Show the effects on the balance sheet of a Checkable deposit outflow of 11. Is this bank meeting its reserve requirement (RRR = 10% for Checkable deposits, 0% for Savings deposits), explain.

Expert Solution

a. Bank's balance sheet consists Assets=Liabilities+Capital. Accordingly balance sheet of the bank is as under:

Bank's Assets=Deposit at the FED (15) + Vault Cash (5) + Loans to businesses (200) + Lending to another bank (20) + Treasury Bills (120) i.e. total of asset side=360

Bank's Liability=Checkable Deposits (160) + Saving deposits (150) + Borrowing from the FED (30) i.e. total of Liabilities=340

Bank's Capital=Bank's Asset-Bank's Liability=360-340=20.

b.If Bank earns 7% default rate on Loans to business (7% of 200 i.e. 14), this will increase the revenue of the bank and any revenue earned increases bank's capital. Hence capital will be increased by $14. If bank's capital increases by 14 then bank will be having $14 more for either investing , giving loan or simply can maintain cash of $14.

c. A Checkable deposit outflow of 11 will reduce the Checkable deposit in liability side by 11 and simlutaneously will reduce the deposit reserve by 11. (Deposit reserve includes Deposit at the FED and Vault cash).

Now checkable deposit will be 149 and 10% Reserve requirement means bank must have 14.90 (10% of 149) in deposit reserve. Deposit reserve prior to outflow of checkable deposit was 15+5=20 and after outflow of 11 deposit reserve will be only 9. Bank is maintaing only 9 against required reserve of 14.90. Hence bank is not maintaining its reserve requirement.

ekkarill92 answered 1 year ago

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