Suppose that currency in circulation is $600 billion, the amount of checkable de

Question

Suppose that currency in circulation is $600 billion, the amount of checkable deposits is $900 billion, traveler’s checks are $0, excess reserves are $15 billion, and the required reserve ratio is .15. a. Calculate the M1 money supply, the currency-deposit ratio, and the money multiplier. (My MS was 1500 bil, C.667 ER: .0167, rr .15, and m 1.99952) is this what you get ? b. Suppose the central bank conducts an open market purchase of bonds held by banks of $140 billion. Assuming the ratios you calculated in part a remain unchanged, what will be the magnitude and driection of the effect on the money supply? c. Now suppose the central bank conducts the same open market purchase as in part b, except that banks choose to hold all of these proceeds as excess reserves rather than loan them out, due to fear of a financial crisis. Assuming that currency and deposits remain the same, what happens to the amount of excess reserves, the excess reserve ratio, the money supply, and the money multiplier. d. In the wake of the financial crisis in 2008, the Federal Reserve injected massive amounts of reserves into the banking system, and very little lending by banks occurred. As a result, the M1 multplier was below 1 for most of the period 2008-2011. How does this relate to your answer in part c?

Explanation / Answer

M1 = Currency (bills and coins in circulation) + Demand deposits + traveler’s checks

M1= 600+900 = 1500

Currency deposit ratio = C/D = 600/900=0.667

m=1/ reserve ratio = 1/0.15 = 6.67

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