Question

In Macroland, currency held by the public is 2,000 econs, bank reserves are 300 econs, and the desired reserve/deposit ratio is 15 percent. If commercial banks borrow 100 econs in reserves from the Central Bank through discount window lending, then the money supply in Macroland will _____ to _____ econs, assuming that the public does not wish to change the amount of currency it holds.

A. increase; 3,133
B. increase; 4,100 C. increase; 4,667 D. increase; 2,667

Answer 1

Answer: Option (C) is correct.

Step-by-step explanation:

Given that,

Currency held by the public = 2,000 econs

Bank reserves = 300 econs

Desired reserve/deposit ratio = 15 percent

If Commercial banks borrow 100 econs in reserves from the Central Bank.

`(Reserves)/(Deposits)` = 0.15

`(300)/(Deposits)` = 0.15

Deposits =
`(300)/(0.15)`

= 2000

Money supply = Currency held by the public + Deposits

= 2,000 + 2,000

= 4,000

Money multiplier =
`(1)/(rr)`

=
`(1)/(0.15)`

= 6.67

Increase in money supply = Borrowing amount × Money multiplier

= 100 x 6.67

= 667

Hence, money supply increases from 4,000 econs to 4,667 econs.