1. The Bank of America receives a deposit for S another bank. If the banking sys

Question

1. The Bank of America receives a deposit for S another bank. If the banking system is fully loaned out and banks have a reserve requirement of 10% and hold 10% as excess reserves, how much can Bank of America lend? what will be the total change in the money supply? Please show your work. BE CAREFUL! 2M from a business with a check written against 2. If the US is above full employment and the government is running a budget surplus, can we say that the entire surplus is helping to reduce inflation? Please explain.

Explanation / Answer

(1)

Required reserves ratio (rr) = 10% = 0.1

Excess reserves ratio (rer) = 20% = 0.2

Money multiplier = 1 / (rr + er) = 1 / (0.1 + 0.2) = 1 / 0.3 = 3.33

(a) Maximum amount Bank of America can lend ($M) = Deposit x (1 - rr - er) = 2 x (1 - 0.1 - 0.2) = 2 x 0.7 = 1.4

(b) Total change in money supply ($M) = Increase in deposit x Money multiplier = 2 x 3.33 = 6.66

NOTE: First question is answered.

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