Question

In a deposits-only monetary system (people hold no currency) with a 5% required reserve ratio, a bank deposit of $1,000 will increase the total value of the money supply by:

Answer 1

The reserve ratio is the portion of the money of the depositor that should be available in cash in the bank. This amount should only be in the bank and not used for all other purposes. Hence, the balance money can be used for the bank operations, increasing the supply.

In this item, we are given that the reserve ratio is only 5%. This means that, 95% of the money can be used by the bank for its operation. This amount can be calculated by multiplying the amount deposited by the decimal equivalent of 95%. That is,
= ($1000)(0.95)
= $950

Therefore, the money supply will increase by $950.