Question

Assume the Fed is trying to decide whether to lower the required reserve ratio to 8%. Currently, the required reserve ratio is 10%. If banks keep no excess reserves, how much more would the money supply increase if the Fed lowers the reserve ratio when someone deposits $200 into a checking account?

Answer 1

$500

Step-by-step explanation:

Data provided in the question:

Final reserve ratio = 8%

Required reserve ratio = 10% = 0.10

Amount deposited to checking account = $200

Now,

Increase in money supply = Deposit × Money multiplier

also,

Money multiplier = 1 ÷ ( Reserve ratio )

= 1 ÷ 0.10

= 10

Thus,

Increase in money supply = $200 × 10

= $2,000

When the reserve ration falls to 8%

Money multiplier = 1 ÷ ( Reserve ratio )

= 1 ÷ 0.08

= 12.5

Thus,

Total increase in money supply = $200 × 12.5

= $2,500

Therefore,

the money supply increase = $2,500 - $2,000

= $500