Question

Which of the following assumptions made in deriving the simple deposit multiplier is unrealistic? The Fed sets the required reserve ratio. The Fed is able to affect the level of reserves in the banking system. Banks loan out all of their excess reserves. The simple deposit multiplier is equal to 1 divided by the required reserve ratio.

Answer 1

Banks loan out all of their excess reserves.

Step-by-step explanation:

It is virtually impossible for a bank to loan all the money it has (deducting required reserves) since loans are handed out every day and are also repaid every day. It is a constant flow, where clients are constantly getting new loans (or refinancing old loans) or repaying existing loans. The only way that a bank could loan all its available money would be that the bank has only a few clients that simultaneously get large loans, but that would carry huge risks.