Suppose that required reserve ratio is 10%, currency in circulation is $400 billion, the amount of checkable deposits is $1200 billion, and excess reserves are $80 billion. Suppose the central bank conducts an unusually large open market purchase of bonds held by banks of $1300 billion due to a sharp contraction in the economy. Assuming the ratios you calculated in part (a) remain the same, calculate the new monetary base and money supply.
Suppose that
Suppose the central bank conducts an unusually large open market purchase of bonds held by banks of $1300 billion due to a sharp contraction in the economy. Assuming the ratios you calculated in part (a) remain the same, calculate the new monetary base and money supply.
Money base is defined as the entire amount of currency that is in circulation in the hands of people or in terms of deposits in the banks or other financial institutions and the number of deposits that are held as the reserve with the central bank. The money base takes into account all the liquid currencies. The monetary base is considered to be part of the entire money supply of the country and is composed of liquid funds like notes, coins, and deposits. This money base increases when the banks notice an increase in their holdings when the Fed creates new funds in order to purchase bonds from the commercial banks.
Money multiplier is defined as the amount of money that is generated by the bank with each unit of the reserve, which is the percentage of deposits held by the bank. This is the money that is utilized for creating more money. Mathematically, it can be calculated by dividing total deposits made in the bank by the reserve requirement. But when the situation arises that people no longer want to deposit but hold their cash, the bank deposits made by the individual will go down, and therefore, the money multiplier will end up overestimating the total amount of money that is created in the economy.
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