Question

The Fed can directly protect a bank during a bank run by providing liquidity to the bank and, in general, the Fed will sell government bonds to the bank in order to provide liquidity to the bank.

Select one:

True

False

In general, an open market purchase by the FOMC decreases the money supply and an open market sale increases the money supply

Select one:

True

False

The Fed regulates the money supply primarily by varying the reserves of banks, largely through sales and purchases of government bonds.

Select one:

True

False

In the absence of government protection, bank runs are a potential problem for banks because banks only hold a fraction of deposits as reserves.

Select one:

True

False

Under a fractional reserve banking system, banks hold only a fraction of deposits as reserves and, in general, lend out a majority of their excess reserves.

Select one:

True

False

Answer 1

1. The Fed can protect a bank from bank run by buying government bonds from the bank which gives more liquidity to the bank.

Answer: False.

2. The open market purchase by FOMC increase the money supply and open market sale decrease the money supply.

Answer: False.

3. The Fed controls money supply by changing the reserve of banks. To change the banks reserve the Fed sells and buys government bonds. When the Fed wants to reduce the money supply, it will sells government bonds in the open market. Thus the reserve of commercial bank decrease and money supply also decrease. When the Fed wants to increase money supply, it will buy government bonds from the open market. Then the reserves of commercial bank increase and money supply in the economy also increase.

Answer: True

4. Bank run is a situation where the large number of customers withdraws their deposits with the fear that the bank cease to function in near future. Since the banks keep a small fraction of deposit as reserve, it cannot meet the sudden increase in withdrawal. In the absence of government protection the bank run is a potential problem for banks.

Answer: True

5. Under fractional reserve banking system the banks are required to keep a small fraction of their deposit as reserve. The banks can lend out the rest.

Answer: True