Question

The Hall State Bank has the following assets: Reserves of $50 million; Loans of $470 million; and Securities of $125 million. Hall State’s liabilities include Deposits of $500 million; Borrowed funds of $65 million and Bank Capital of $80 million. If the required reserve rate is 10 percent, answer the following: What is the amount of excess reserves the bank is currently holding? What are the options available to the bank if customers decide to withdraw $30 million in deposits? Explain.

Answer 1

Ans: - (a) Reserve ratio or Reserve rate is the minimum percentage rate or minimum amount that the bank needs to maintain from its deposits

Hall Bank deposits is $500 million and the reserve rate is 10%. That means 10% of $500 million should be kept as a reserve by the bank.

10% of $500 = $50 million

Minimum Reserve Required is $50 million and the bank has a Reserve of $50 million. Therefore the bank is not holding the excess reserve amount at the moment.

(b)Now suppose the customers decide to withdraw $30 million from deposits.

Then the amount which will be left in deposits will be $500 - $30 = $470 million

And the amount which will be in left in reserves will be $50 - $30 = $20 million.

But it is given in the question that the reserve ratio is 10%, therefore, the bank needs to maintain 10% of the amount left in deposits i.e 10% of $470 million is $47. Now their is shortfall of $27 in the reserves ( $47 - $20 = $27).

Now the few options which are available to the bank to compensate for the shortfall of $27 million are given below.

(1) Since the bank has securities, therefore they can sell $27 million of securities to compensate for the shortfall.

(2) Now the other option that bank has is they can take a short-term loan i.e discount loan from Federal Reserve Bank.

(3) The bank has Loan of $470 million, therefore they can sell off $27 million Loan to compensate for the shortfall.

(4) The bank can also borrow $27 million from the Federal Funds Market to maintain their reserves.

These are the few options available to the Hall State Bank to compensate for the shortfall, From the options which are available they should pick the one which is least costly.