Problem 1
Explain why merchants accepted gold receipts as a means of payment even though the receipts were issued by goldsmiths, not the government. What risk did goldsmiths introduce into the payments system by issuing loans in the form of gold receipts?
Problem 2
Why is the banking system in the United States referred to as a fractional reserve bank system? What is the role of deposit insurance in a fractional reserve system?
Problem 3
What is the difference between an asset and a liability on a bank's balance sheet? How does net worth relate to each? Why must a balance sheet always balance? What are the major assets and claims on a commercial bank's balance sheet?
Problem 4
Why does the Federal Reserve require commercial banks to have reserves? Explain why reserves are an asset to commercial banks but a liability to the Federal Reserve Banks. What are excess reserves? How do you calculate the amount of excess reserves held by a bank? What is the significance of excess reserves?
Problem 5
"Whenever currency is deposited in a commercial bank, cash goes out of circulation and, as a result, the supply of money is reduced." Do you agree? Explain why or why not.
Problem 6
"When a commercial bank makes loans, it creates money; when loans are repaid, money is destroyed." Explain.
Problem 7
Suppose that Mountain Star Bank discovers that its reserves will temporarily fall slightly below those legally required. How might it temporarily remedy this situation through the federal funds market? Now assume Mountain Star finds that its reserves will be substantially and permanently deficient. What remedy is available to this bank? (Hint: Recall your answer to discussion question 6.)
Problem 8
Explain why a single commercial bank can safely lend only an amount equal to its excess reserves, but the commercial banking system as a whole can lend by a multiple of its excess reserves. What is the monetary multiplier, and how does it relate to the reserve ratio?
Problem 9
How would a decrease in the reserve requirement affect the (a) size of the monetary multiplier, \((b)\) amount of excess reserves in the banking system, and \((c)\) extent to which the system could expand the money supply through the creation of checkable deposits via loans?
Problem 10
Does leverage increase the total size of the gain or loss from an investment, or just the percentage rate of return on the part of the investment amount that was not borrowed? How would lowering leverage make the financial system more stable?
