7. The money creation process Suppose First Main Street Bank, Second Republic Ba
ID: 1168960 • Letter: 7
Question
7. The money creation process
Suppose First Main Street Bank, Second Republic Bank, and Third Fidelity Bank all have zero excess reserves. The required reserve ratio is 10%. The Federal Reserve buys a government bond worth $250,000 from Felix, a client of First Main Street Bank. He deposits the money into his checking account at First Main Street Bank.
Complete the following table to reflect any changes in First Main Street Bank's T-account (before the bank makes any new loans).
Complete the following table to show the effect of a new deposit on excess and required reserves when the required reserve ratio is 10%.
Hint: If the change is negative, be sure to enter the value as negative number.
Now, suppose First Main Street Bank loans out all of its new excess reserves to Deborah, who immediately uses the funds to write a check to Carlos. Carlos deposits the funds immediately into his checking account at Second Republic Bank. Then Second Republic Bank lends out all of its new excess reserves to Felix, who writes a check to Janet, who deposits the money into her account at Third Fidelity Bank. Third Fidelity lends out all of its new excess reserves to Megan as well.
Fill in the following table to show the effect of this ongoing chain of events at each bank. Enter each answer to the nearest dollar.
Assume this process continues, with each successive loan deposited into a checking account and no banks keeping any excess reserves. Under these assumptions, the $250,000 injection into the money supply results in an overall increase of $______ in demand deposits.
7. The money creation process
Suppose First Main Street Bank, Second Republic Bank, and Third Fidelity Bank all have zero excess reserves. The required reserve ratio is 10%. The Federal Reserve buys a government bond worth $250,000 from Felix, a client of First Main Street Bank. He deposits the money into his checking account at First Main Street Bank.
Complete the following table to reflect any changes in First Main Street Bank's T-account (before the bank makes any new loans).
Assets Liabilities Reserves $250,000 Deposits $250,000Complete the following table to show the effect of a new deposit on excess and required reserves when the required reserve ratio is 10%.
Hint: If the change is negative, be sure to enter the value as negative number.
Amount Deposited Change in Excess Reserves Change in Required Reserves (Dollars) (Dollars) (Dollars) 250,000Now, suppose First Main Street Bank loans out all of its new excess reserves to Deborah, who immediately uses the funds to write a check to Carlos. Carlos deposits the funds immediately into his checking account at Second Republic Bank. Then Second Republic Bank lends out all of its new excess reserves to Felix, who writes a check to Janet, who deposits the money into her account at Third Fidelity Bank. Third Fidelity lends out all of its new excess reserves to Megan as well.
Fill in the following table to show the effect of this ongoing chain of events at each bank. Enter each answer to the nearest dollar.
Increase in Deposits Increase in Required Reserves Increase in Loans (Dollars) (Dollars) (Dollars) First Main Street Bank Second Republic Bank Third Fidelity BankAssume this process continues, with each successive loan deposited into a checking account and no banks keeping any excess reserves. Under these assumptions, the $250,000 injection into the money supply results in an overall increase of $______ in demand deposits.
Explanation / Answer
change in excess reserves = $225,000
required reserves = $25,000
Increased in deposits Increase in required reserves Increase in loans
First main street bank 250,000 0 225,000
Second republic bank 225,000 22,500 202,500
Third fidelity bank 202,500 20,250 182,250
Total increase in deposits = 250,000/0.1 = $2,500,000
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