You just received a bonus at your job of $4,000 which you decide to put in a sav

Question

You just received a bonus at your job of $4,000 which you decide to put in a saving account at the local bank. Assume that banks lend out all excess reserves and there are no leaks in the banking system. That is, all money lent by banks gets deposited in the banking system. Round your answers to the nearest dollar. If the reserve requirement is 18%, how much will your deposit increase the total value of checkable bank deposits? If the reserve requirement is 7%, how much will your deposit increase the total value of checkable deposits? Decreasing the reserve requirement the money supply.

Explanation / Answer

Money Multiplier, MM = 1 / Reserve requirement (RR)

(a) Reserve requirement (RR) is 18%.

MM = 1 / 0.18 = 5.56

So, total money supply will increase by $4,000 x 5.56 = 22,240**

For exact precision: Total increase in money supply = $4,000 / 0.18 = $22,222 [Direct computation without using money multiplier]

(b) Reserve requirement (RR) is 7%.

MM = 1 / 0.07 = 14.29

So, total money supply will increase by $4,000 x 14.29 = $57,160**

For exact precision: Total increase in money supply = $4,000 / 0.07 = $57,143 [Direct computation without using money multiplier]

(c) Decreasing reserve requirement increases money supply.

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