Question

Value Total reserves Transactions deposits: Cash held by public Required reserve ratio: $60 billion $400 billion $350 billion 0.10 a. How large is the money supply (M1)? s 750 billion b. Are the banks fully utilizing their lending capacity? Banks currently have 200 billion in excess reserves. Now assume that the public deposited another $20 billion in cash in transactions accounts. c. What would happen to the money supply initially (before any lending takes place)? Assuming the $20 billion in cash is not new money in the system, M1 will not change d. How much would the total lending capacity of the banking system be after this portfolio switch? billion e. How large would the money supply be if the banks fully utilized their lending capacity? billion f. What three steps could the Fed take to offset the potential growth in M1? Increase Increase Sell reserve requirements the discount rate bonds

I got most of the questions answered but not sure how to do D & E.

Answer 1

d. After additional deposit of $20 billion in cash, now required reserves are 420*0.10=42 billion and total reserves initially be 80 billion. Therefore, there are excess reserves of 80-42= 38 billion. The lending capacity of the bank is now 38*10=$380 billion as the money multiplier is 10.

e. Assuming lending capacity of $380 is fully used then money supply rise to 750+380=$1130 billion. This consist of current $420 billion of transaction deposits, 330 in cash after deposit was made,plus $380 billion in new money created through lending process.