Question

Suppose the Federal Reserve purchases $10,000 of Treasury bonds from you and that you deposit the $10,000 into your checking account deposit at Bank Y. Assume that Bank Y has no excess reserves at the time you make your deposit and that the required reserve ratio is 20 percent. a. Use a T-account to show the initial effect of this transaction on Bank Y's balance sheet. b. Suppose that Bank Y makes the maximum loan they can from the funds you deposited. Use a T-account to show the initial effect on Bank Y's balance sheet from granting the loan. Also, include in this T-account the transaction from the question (a). c. What is the maximum increase in checking account deposits that can result from your $10,000 deposit? What is the maximum increase in the money supply? Explain. HTML Editor

Answer 1

solution-

a) T-account to show the initial effect of this transaction on Bank Y's balance sheet where  Bank Yʹs checking account deposits & reserves rised by $10,000.

Bank Y
Assets		Liabilities
Reserves	+$10,000	Deposits	+$10,000

b) While this is provided in the query the reserve ratio is 20 %. Therefore, Bank Y has to keep $2,000 of needed reserves, bequeathing $8,000 of excess reserves which they loan. Bank Y raises the checking account of the borrower by $8,000.

Bank Y
Assets		Liabilities
Reserves	+$10,000	Deposits	+$10,000
Loans	+$8,000	Deposits	+$8,000

c) The highest raise in checking account deposits is $50,000: $10,000 times the simple deposit multiplier of 1 / 0.20, either 5. The money supply also increases by $50,000, therefore the original deposit of $10,000 arrived from a check from the Federal Reserve. The aforementioned deposit multiplier has got from the reserve ratio of 20 percentage or 0.2.