Final answer:
The bank's excess reserves are calculated by subtracting required reserves from actual reserves. With a reserve requirement of 5% on deposits totaling $155 million, the required reserves are $7.75 million. Given the actual reserves are $25 million, the excess reserves amount to $17.25 million which can be loaned out, thereby increasing total deposits by the same amount.
Step-by-step explanation:
To calculate the bank's excess reserves, we must first calculate the required reserves based on the reserve ratio and then subtract this from the bank's actual reserves. Since the desired reserve ratio on all deposits is 5% and there is no currency drain, we only need to look at the reserve ratio applied to the checkable and savings deposits.
The sum of checkable and savings deposits is $80 (checkable deposits) + $75 (savings deposits) = $155 million. Therefore, required reserves would be 5% of $155 million, which is $7.75 million.
The bank has $20 million in reserves at the Fed and $5 million in cash in the vault, for a total of $25 million in actual reserves. Subtracting the required reserves ($7.75 million) from the actual reserves ($25 million), we find the excess reserves to be $25 million - $7.75 million = $17.25 million.
With these excess reserves of $17.25 million, the bank can potentially make a loan of this amount. If the bank makes a loan using all of its excess reserves, the quantity of the loan would be $17.25 million, and subsequently the total deposits would increase by this amount since loans contribute to the creation of additional deposits through the money creation process.