Question

I can't figure out what I am doing wrong in the below question on the Fed Reserve balance sheet. I am not looking for the answer and only need some direction.

Bank Three currently has $500 million in transaction deposits on its balance sheet. The Federal Reserve has currently set the reserve requirement at 6 percent of transaction deposits. a. If the Federal Reserve decreases the reserve requirement to 4 percent, show the balance sheet of Bank Three and the Federal Reserve System just before and after the full effect of the reserve requirement change. Assume Bank Three withdraws all excess reserves and gives out loans, and that borrowers eventually return all of these funds to Bank Three in the form of transaction deposits. (Do not round intermediate calculations. Enter your answers in millions rounded to the nearest dollar amount.)

I the titles for entries on assets and liabilities are correct for initial balance sheet. I am calculating the 500m x 6% for initial. and then when the fed reserve change the reserve requirement to 4% I changed my figures based on 500M x 4%. Should I not be using the same starting transaction deposit???    I keep reading in the text book and can't figure it out. I need help with the initial equation.

Answer 1

I am very glad that you have asked clarification on approach and not the final answer.

When the change takes place,

• There will be no change on the balance sheet of the Federal Reserve System
• the reserve deposit with the Fed will still remain the same on the balance sheet = 500 x 6% = 30.
• Your transaction deposit on the balance sheet will adjust to a new and higher value, say A such that 4% of A = 30. Thus you have to solve A from the equation, 4% x A = 30
• The quantum of loan on the balance sheet will change to A - 30