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Chapter 29: Problem 12

Show the changes to the T-accounts for the Federal Reserve and for commercial banks when the Federal Reserve sells \(\$ 30\) million in U.S. Treasury bills. If the public holds a fixed amount of currency (so that all new loans create an equal amount of checkable bank deposits in the banking system) and the minimum reserve ratio is \(5 \%\), by how much will checkable bank deposits in the commercial banks change? By how much will the money supply change? Show the final changes to the T-account for the commercial banks when the money supply changes by this amount.

Short Answer

Expert verified
A: Checkable bank deposits and the money supply will both decrease by \$600 million.

Step by step solution

01

Initial T-account Changes for Federal Reserve and Commercial Banks

Present the initial T-account changes for both the Federal Reserve and the commercial banks after the Federal Reserve sells the Treasury bills: Federal Reserve: - Assets: U.S. Treasury bills decrease by \$30 million - Liabilities: Reserves held by commercial banks decrease by \$30 million Commercial Banks: - Assets: Reserves held at the Federal Reserve decrease by \$30 million - Liabilities: Deposits remain unchanged
02

Calculate Changes in Checkable Bank Deposits and Money Supply

To calculate the change in checkable bank deposits in commercial banks, we first need to calculate the money multiplier, which can be given as: Money multiplier = \(\frac{1}{reserve\;ratio} = \frac{1}{0.05} = 20\) Now, we can calculate the change in checkable bank deposits by multiplying the decrease in reserves by the money multiplier: Change in checkable bank deposits = 20 x (-\$30 million) = -\$600 million Since the money supply includes checkable bank deposits, the money supply will decrease by the same amount: Change in money supply = -\$600 million
03

Final Changes to the T-Account for Commercial Banks

Show the final changes in the T-account for the commercial banks after the money supply changes by the calculated amount: Assets: - Reserves held at the Federal Reserve: Decrease by \$30 million - Loans: Increase by \$570 million (because the banks have used the excess reserves to create new loans) Liabilities: - Deposits: Decrease by \$600 million (this represents the new checkable bank deposits after the money multiplier effect) In conclusion, the T-account for commercial banks will show a decrease of \$30 million in reserves held at the Federal Reserve, an increase of \$570 million in loans, and a decrease of \$600 million in deposits after the Federal Reserve sells \$30 million in U.S. Treasury bills, assuming a minimum reserve ratio of \(5 \%\) and the public holding a fixed amount of currency. The money supply will decrease by \$600 million as a result of this action.

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Most popular questions from this chapter

Although the U.S. Federal Reserve doesn't use changes in reserve requirements to manage the money supply, the central bank of Albernia does. The commercial banks of Albernia have \(\$ 100\) million in reserves and \(\$ 1,000\) million in checkable deposits; the initial required reserve ratio is \(10 \%\). The commercial banks follow a policy of holding no excess reserves. The public holds no currency, only checkable deposits in the banking system. a. How will the money supply change if the required reserve ratio falls to $5 \%$ ? b. How will the money supply change if the required reserve ratio rises to $25 \%$ ?

The government of Eastlandia uses measures of monetary aggregates similar to those used by the United States, and the central bank of Eastlandia imposes a required reserve ratio of \(10 \% .\) Given the following information, answer the questions below. Bank deposits at the central bank \(=\$ 200\) million Currency held by public \(=\$ 150\) million Currency in bank vaults \(=\$ 100\) million Checkable bank deposits \(=\$ 500\) million Traveler's checks \(=\$ 10\) million a. What is \(\mathrm{M} 1 ?\) b. What is the monetary base? c. Are the commercial banks holding excess reserves? d. Can the commercial banks increase checkable bank deposits? If yes, by how much can checkable bank deposits increase?

What will happen to the money supply under the following circumstances in a checkable-deposits-only system? a. The required reserve ratio is \(25 \%,\) and a depositor withdraws \(\$ 700\) from his checkable bank deposit. b. The required reserve ratio is \(5 \%,\) and a depositor withdraws \(\$ 700\) from his checkable bank deposit. c. The required reserve ratio is \(20 \%,\) and a customer deposits \(\$ 750\) to her checkable bank deposit. d. The required reserve ratio is \(10 \%,\) and a customer deposits \(\$ 600\) to her checkable bank deposit.

Ryan Cozzens withdraws \(\$ 400\) from his checking account at the local bank and keeps it in his wallet. a. How will the withdrawal change the T-account of the local bank and the money supply? b. If the bank maintains a reserve ratio of \(10 \%\), how will it respond to the withdrawal? Assume that the bank responds to insufficient reserves by reducing the amount of deposits it holds until its level of reserves satisfies its required reserve ratio. The bank reduces its deposits by calling in some of its loans, forcing borrowers to pay back these loans by taking cash from their checking deposits (at the same bank) to make repayment. c. If every time the bank decreases its loans, checkable bank deposits fall by the amount of the loan, by how much will the money supply in the economy contract in response to Ryan's withdrawal of \(\$ 400 ?\) d. If every time the bank decreases its loans, checkable bank deposits fall by the amount of the loan and the bank maintains a reserve ratio of \(20 \%\), by how much will the money supply contract in response to a withdrawal of $\$ 400 ?$

There are three types of money: commodity money, commodity-backed money, and fiat money. Which type of money is used in each of the following situations? a. Bottles of rum were used to pay for goods in colonial Australia. b. Salt was used in many European countries as a medium of exchange. c. For a brief time, Germany used paper money (the "Rye Mark") that could be redeemed for a certain amount of rye, a type of grain. d. The town of Ithaca, New York, prints its own currency, the Ithaca HOURS, which can be used to purchase local goods and services.
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