Question

1. Suppose that currency in circulation is $1 trillion, the amount of chequable deposits is $1.2 trillion, excess reserves are $20 billion, and the desired reserve ratio is 10%.

1. Calculate the money supply, the currency deposit ratio, the excess reserve ratio, and the money multiplier.        
2. If the central bank conducts an unusually large open market purchase of bonds of $1.4 trillion following a sharp contraction in the economy, what is the impact on the money supply?                             
3. If the central bank conducts the same policy as in part (b), except chartered banks hold all of these proceeds as excess reserves rather than loan them out, what happens to the amount of excess reserves, the excess reserve ratio, the money supply, and the money multiplier?                                                                       
4. Following the financial crisis in 2008, the Federal Reserve injected massive amounts of liquidity in the U.S. banking system but very little lending occurred. As a result, the M1 money multiplier was below 1 for most of the time from October 2008 through 2011. How does this relate to your answer to part (c) above?                               

Answer 1