Question

Which of the following statements help to explain why, in the real world, the Fed cannot precisely control the money supply?

a. The Fed cannot control the amount of money that households choose to hold as currency.
b. The Fed cannot prevent banks from lending out required reserves.
c. The Fed cannot control whether and to what extent banks hold excess reserves.

Answer 1

The correct answer is option a and c.

Step-by-step explanation:

The fed cannot control the money supply up to a great extent in the real world. This is because the feds can control the amount of required reserves that a commercial bank holds. But they cannot control the amount of excess reserves that a bank decides to hold which affects the money supply.

At the same time, the feds cannot control the amount of money that the households decide to hold as currency which also affects the money supply.

The amount of excess reserves a bank decides to hold affects the deposit-reserve ratio. While the amount of money that households decide to hold affects the currency deposit ratio. Both of these ratios affect the money supply.