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ECON 1BB3 Lecture Notes - Canada Deposit Insurance Corporation, Federal Reserve System, Reserve Requirement

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School
McMaster University
Department
Economics
Course
ECON 1BB3
Professor
Bridget O' Shaughnessy

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ECON 1BB3 Full Course Notes
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ECON 1BB3 Full Course Notes
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Document Summary

Fractional-reserve banking: a banking system in which a bank holds only a fraction of deposits as reserves. Reserve ratio: fraction of total deposits that a bank holds as reserves. I have ,000 in currency and there is no banking system. Now, i deposit my ,000 into a bank. Money multiplier: the amount of deposits the banking system generates with each dollar of reserves. If is deposited into the banking system what happens to total deposits. Bank of canada is canada"s central bank. Other central banks: bank of england, bank of japan, board of governors of the federal reserve system (us) The bank of canada controls the money supply by: open-market operations: buying and selling government bonds, changing the overnight rate: the government can change the bank rate, which equally changes the overnight rate. Depositors believe that a bank might go bankrupt. Problem for banks using the fractional-reserve banking system. All banks are insured up to ,000.

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Related Questions

1. In a system of fractional-reserve banking, even without any action by the central bank, the money supply declines if households choose to hold (less, more) currency or if banks choose to hold (less, more) excess reserves.

2. If the Fed makes an open-market purchase of government bonds, it will (decrease, increase) the money supply. Whereas if there is an increase in the discount rate on Fed lending, it will (decrease, increase) the money supply.

3. Chloe takes $100 of currency from her wallet and deposits it into her checking account. If the bank adds the entire $100 to reserves, the money supply(decreases, doesn't change, increases), but if the bank lends out some of the $100, the money supply (decreases, doesn't change, increases).

4. If the reserve ratio is 0.25 and the central bank increases the quantity of reserves in the banking system by $120, the money supply increases by how much?

 

1.Consider an economy in which initially there are no banks. Suppose that one consumer initially holds the entire money supply in the form of $1,000 in currency. Then assume a new bank is opened, The First National Bank, and the consumer deposits the entire $1,000 into the bank. Based on this scenario answer the following questions:

a Assuming that the First National Bank has a 100% reserve ratio, use a T account to show what effect this deposit will have.

b Still assuming a 100% reserve ratio, explain what effect this deposit will have on the economy’s total money supply.

c Show how the First National Banks T account will look, if instead it has a 10% reserve ratio and holds no excess reserves. (0.5 mark)

d Following form c. if other banks now open up and face a 10% reserve ratio, and assuming that every consumer holds her or his money as deposits instead of currency, explain what effect the initial deposit will eventually have on the money supply.

e Are consumers as a group wealthier when the banking system chooses a 10% reserve ratio. Explain the reasons for your answer.

1. (0.2 pt) In a system of fractional-reserve banking, even without any action by the central bank, the money supply declines if households choose to hold (less, more) currency or if banks choose to hold (less, more) excess reserves. 

2. (0.2 pt) If the Fed makes an open-market purchase of government bonds, it will (decrease, increase) the money supply. Whereas if there is an increase in the discount rate on Fed lending, it will (decrease, increase) the money supply. 

3. (0.2 pt) Chloe takes $100 of currency from her wallet and deposits it into her checking account. If the bank adds the entire $100 to reserves, the money supply (decreases, doesn't change, increases), but if the bank lends out some of the $100, the money supply (decreases, doesn't change, increases). 

4.(0.2 pt) If the reserve ratio is 0.25 and the central bank increases the quantity of reserves in the banking system by $120, the money supply increases by how much? (Make sure to show all your work.)