Question

if the fed reduces reserves by selling $5 million worth of bonds to the banks, what will the t-account of the banking system look like when the banking system is in equilibrium (it satisfies minimum reserve requirement) ? what will have happened to the level of checkable deposits?

Answer 1

If the Fed reduces reserves by selling $5 million worth of bonds to the banks, the T-account of the banking system will look as follows: Assets: Reserves will decrease by $5 million and Bonds will increase by $5 million. Liabilities and Equity: No change. The level of checkable deposits will decrease depending on the reserve requirement ratio.

Step-by-step explanation:

In this scenario, the banks are buying bonds from the Fed, which means they are reducing their reserves. If the Fed reduces reserves by selling $5 million worth of bonds to the banks, the T-account of the banking system will look as follows:

• Assets: Reserves will decrease by $5 million and Bonds will increase by $5 million
• Liabilities and Equity: No change

When the banking system is in equilibrium, it satisfies the minimum reserve requirement. The level of checkable deposits will depend on the reserve requirement ratio set by the Fed. If the reserve requirement ratio is 10%, a $5 million reduction in reserves through bond sales would lead to a decrease in checkable deposits by $50 million ($5 million divided by 0.10).