Question

Scenario: Money Supply Changes II Charlotte withdraws $8,000 from her checkable bank deposit to pay tuition this semester. Assume that the reserve requirement is 20% and that banks do not hold excess reserves. Reference: Ref 18-7 (Scenario: Money Supply Changes II) Look at the scenario Money Supply Changes II. As a result of the withdrawal, excess reserves _____ by _____.

A) Decrease; $6,400
B) Decrease; $8,000
C) Increase; $8,000
E) Decrease; $1,600

Answer 1

As a result of the withdrawal, excess reserves decrease by $1,600

The answer is option E). Decrease; $1,600

Step-by-step explanation:

The following formula can be used to calculate the excess requirement;

C=(1/R)×E

where;

C=total change in M1 money supply

R=reserve requirement

E=excess requirement

In our case;

C=$8,000

R=20%=20/100=0.2

E=unknown

replacing;

8,000=(1/0.2)×E

E=0.2×8,000=1,600

The excess requirement=$1,600

Since the excess reserves require $1,600 after withdrawal of $8,000, then it means that the excess reserves decrease by $1,600 due to the withdrawal