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Handout8 - Mikes Loan Smith Loan M1 balance at the...

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Lecture 8 Outlines: Banks and the Money Supply How do banks make profit? Reserve Requirement/Ratio (RR): Excess Reserves: Example (Reserve Requirement): Fractional Reserve Banking: Example (Fractional Reserve Banking): Suppose RR=0.20 (1) Jo finds $1000 in her mattress and deposits it into a checking account in Wells Fargo. The $1000 is the initial money supply in this economy. WF Balance Sheet Assets Liabilities
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Page 2 of 10 (2) Mike needs money to repair his car, takes an $800 loan from Wells Fargo and pays Ann of Quick Repair. Assets Liabilities (3) Ann deposits the money in Wells Fargo. Assets Liabilities (4) Smith family takes out $640 loan to paint house. They hire Jo, who deposits the income in her account in Wells Fargo. Assets Liabilities What is Jo's account balance? Ann's account balance?
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Unformatted text preview: Mikes Loan? Smith Loan? M1 balance at the beginning of this economy: M1 balance at the end of this economy: Page 3 of 10 Money Multiplier Monetary multiplier (Equation): Monetary Multiplier (Example): Maximum Money Supply (Equation): Notice that higher reserve ratios generate lower money multipliers so less money is created Maximum Money Supply (Example): Money Supply Page 4 of 10 Money Market Equilibrium Monetary Policy Suppose we’re in a recession, and the Fed decides to decrease the Reserve Ratio. What happens? Expansionary Monetary Policy: Contractionary Monetary Policy: Page 5 of 10 Tools of Monetary Policy 1. 2. 3. Reserve Ratio: Open Market Operation (OMO): Three kinds of securities 1. 2. 3. Relationship between Tbills and Money supply: Discount Rate Term Auction Facility...
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