The Federal Reserve and the money supply Suppose the money supply (as measured b

Question

The Federal Reserve and the money supply Suppose the money supply (as measured by checkable deposits) is currently $150 billion. The required reserve ratio is 10%. Banks hold $15 billion in reserves, so there are no excess reserves. The Federal Reserve ("the Fed") wants to increase the money supply by $20 billion, to $170 billion. It could do this through open-market operations or by changing the required reserve ratio. Assume for this question that you can use the oversimplified money multiplier formula. If the Fed wants to increase the money supply using open-market operations, it should $ billion worth of U.S. government bonds. If the Fed wants to increase the money supply by adjusting the required reserve ratio, it should the required reserve ratio.

Explanation / Answer

Sell $20 Billion worth of U.S. Government Bond. Fed will issue bonds for money.

Decrease the required Reserve ratio, Decreasing the reserve requirement will decrease the reserve and increase the money supply available for making loans.

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