Chapter 35, Problem 6P

Subpart (a):

To determine

Balance sheet.

Explanation of Solution

The required reserves are evaluated as follows:

$\begin{array}{l}\text{Required Reserves}=\text{Required Reserve Ratio}\times \text{Checkable deposits}\\ =\text{0}\text{.25}\times \text{200 billion}\\ =\text{\$50 billion}\end{array}$

Hence, the required reserves are $50 billion.

The excess reserves are evaluated as follows:

$\begin{array}{l}\text{Excess Reserves}=\text{Actual Reserves-Required Reserves}\\ =\text{\$52 billion-\$50 billion}\\ =\text{\$2 billion}\end{array}$

Hence, the excess reserves are $2 billion.

The maximum amount of a banking system is obtained by taking the product of the monetary multiplier and the amount of excess reserves. Thus, the monetary multiplier can be calculated as follows:

$\begin{array}{l}\text{Monetary multiplier}=\frac{\text{1}}{\text{Required Reserve Ratio}}\\ =\frac{\text{1}}{\text{0}\text{.25}}\\ =\text{4}\end{array}$

Hence, the monetary multiplier is 4.

Then, the maximum amount of loans is evaluated as follows:

$\begin{array}{l}\text{Maximum amount of loans}=\text{4}\times \text{\$2 billion}\\ =\text{\$8 billion}\end{array}$

Hence, the maximum amount of loan is $8 billion.

Table -1 shows the consolidated balance sheet obtained from the given diagram.

Table -1

Assets			Liabilities and Net worth
		(1)			(2)
Reserves	$52	$52	Checkable deposits	$200	$208
Securities	48	48
Loans	100	108

Economics Concept Introduction

Concept introduction:

Balance sheet: Itis a financial statement that encapsulates an organization’s assets, their liabilities, and equity of the shareholders at a particular point in time.

Subpart (b):

To determine

To determine: Balance sheet.

Explanation of Solution

The required reserves are evaluated as follows:

$\begin{array}{l}\text{Required Reserves}=\text{Required Reserve Ratio}\times \text{Checkable deposits}\\ =\text{0}\text{.20}\times \text{\$200 billion}\\ =\text{\$40 billion}\end{array}$

Hence, the required reserves are $40 billion.

The excess reserves are evaluated as follows:

$\begin{array}{l}\text{Excess Reserves}=\text{Actual Reserves-Required Reserves}\\ =\text{\$52 billion-\$40 billion}\\ =\text{\$12 billion}\end{array}$

Hence, the excess reserves are $12 billion.

Thus, the monetary multiplier is evaluated as follows:

$\begin{array}{l}\text{Money multiplier}=\frac{\text{1}}{\text{Required Reserve ratio}}\\ =\frac{\text{1}}{\text{0}\text{.2}}\\ =\text{5}\end{array}$

Hence, the money multiplier is 5.

Then the maximum amount of loans is evaluated as follows:

$\begin{array}{l}\text{Maximum amount of loans}=\text{Money multiplier}\times \text{Excess Reserves}\\ =\text{5}\times \text{\$12 billion}\\ =\text{\$60 billion}\end{array}$

Hence, the maximum amount of loans is $60 billion.

Table -2 shows the new consolidated balance sheet obtained from the given diagram.

Table -2

Assets			Liabilities and Net worth
		(1)			(2)
Reserves	$52	$52	Checkable deposits	$200	$260
Securities	48	48
Loans	100	160

With the required reserve ratio of 20% (rather than 25%), the difference in the amount of the commercial banking system is evaluated as follows:

$\begin{array}{l}\text{Difference in the amount that the banking system can lend}\\ =\left(\begin{array}{l}{1}^{st}\text{ Maximum amount of loan-}\\ 2^{nd}\text{ Maximum amount of loan}\end{array}\right)\\ =\text{\$60 billion-\$8 billion}\\ =\text{\$52 billion}\end{array}$

Hence, the banking system can lend $52 billion more.

Economics Concept Introduction

Concept introduction:

Balance sheet: Itis a financial statement that encapsulates an organization’s assets, their liabilities, and equity of the shareholders at a particular point in time.