Changes in Monetary Policy Prepare a 2-3 page analysis by answering the question

Question

Changes in Monetary Policy

Prepare a 2-3 page analysis by answering the questions below. Be sure to cite your references using APA format.

Assume that the Bank of Ecoville has the following balance sheet and the Fed has a 10% reserve requirement in place:

Balance Sheet for Ecoville International Bank

ASSETS

LIABILITIES

Cash

$33,000

Demand Deposits

$99,000

Loans

66,000

Required:

Now assume that the Fed lowers the reserve requirement to 8%.

1- What is the maximum amount of new loans that this bank can make?

2- Assume that the bank makes these loans. What will the new balance sheet look like?

3- By how much has the money supply increased or decreased?

4- If the money multiplier is 5, how much money will ultimately be created by this event?

5- If the Fed wanted to implement a contractionary monetary policy using reserve requirement, how would that work?

Deliverables:

Address the questions above, showing your calculations. Develop your analysis in Microsoft Excel format. Enter non-numerical responses in the same worksheet using textboxes.

Balance Sheet for Ecoville International Bank

ASSETS

LIABILITIES

Cash

$33,000

Demand Deposits

$99,000

Loans

66,000

Explanation / Answer

Ecoville Bank is just obliged to retain 10% of the demand deposits in reserve. 10% of$99000 is $9900. Ecoville bank can consequently give loan money up to $99,000 - 9900 =$89,100. In actuality the bank has rendered loan money with a value of $66,000. Hence, even without change of the required reserve ratios, Ecoville Bank will still be able to grant further loans valuing $23,100. If the Federal Reserve Bank gives a reduction of the required reserve ratio to 8%, Ecoville bank would be obligated to retain 8% of $99,000, or $7920. Ecoville bank can then give loan money valued at $99,000 - 7920 =$91,080.This bank has previously given definite loan money with a value of $66,000 therefore it can give additional loan money valued at $91,080-66,000 = $25,080.If they made these loans, the balance sheet would look like this:

Assets

Cash: $7,920

Loans: $91,080

Liabilities

Demand Deposits: $99,000

If the money multiplier is 5 then the reserve ratio will be 1/5 = 0.2 or 20%. That means the bank will have to keep 20% of its deposits in reserves and it can loan up to 80% of its deposits.

Contractionary policies are enacted by a government to reduce the money supply and ultimately the spending in a country. Banks are required to keep a reserve of cash to meet withdrawal demands. If the reserve requirements are increased, there is less money for banks to lend out. Thus there is a lower money supply.

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