Question

Student Name: Q1. (15 points) Bank Profits: Bank A has deposit liabilities of $200 million. It keeps the minimum cash reserves required by law of 20 % and holds an additional 10% of minimum cash reserves. Now the lending- borrowing transactions are taking place and the funds lent out from one bank are returned to the banking system in the form of new deposits to another bank. For example, Bank A keeps its minimum required reserves and lends the excess to Kitti. Kitti spends her loan at Walmart. Walmart deposits the check it receives from Kitti in Bank B. Show how Bank A makes one loans to Bank B. Assume that each bank has the same annual 8% annual interest rate on its loans and 2% annual interest rate on its deposits. Their annual costs (wages, rent, utilities etc.) are $2 million. Write down the balance sheet of bank A and calculate their net profits. a. Bank A Asset Deposit liability Cash reserves: Deposits: Loaned out: Net profit:

Answer 1

a) Bank A has $200 million of deposit. This is a liability of the bank.
The cost of funds mentioned as 2% which means the total cost is $4 million

$200 million * 0.02 = $4 million

b) The reserve requirement is 20% and banks further holds 10% as additional reserve.
The total reserve is $30 million

200 million * ( 0.2 + 0.1 ) = $30 million
Net loanable funds are $170 million.

$200 million - $30 million = $170 million

c) The interest rate is 8% which means the income on the loaned out fund by the bank is $13.6 million.

$170 million * 0.08 = $13.6 million

d) Profit = Total Income - Total Cost

13.6 - ( 4 + 2 ) = 7.6
Cost of funds is $4 million while their annual operating cost is $2 million.

Total profit is $7.6 million

	Assets	Liabilities
Cash Reserves	$30 million	$200 million
Loaned Amount	$170 million
Net Profit	$7.6 million