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24 deriving the money mulplier we will abandon the two

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Unformatted text preview: B Liabili<es +$90 Checkable deposits Assets +$90 Reserves Loans Liabili<es +$9 Checkable +$81 deposits +$90 •  The same process will con<nue. 18 Deposit Crea<on: The Banking System •  Overall changes in deposits, loans, and reserves with the ini<al $100 increase in reserves. $1,000 $900 $800 $700 $600 $500 $400 $300 $200 $100 $0 Total Change in Deposits Total Change in Loans Total Change in Reserves 0 5 10 15 20 25 30 35 40 45 50 # of Banks 19 Deposit Crea<on: Inves<ng in Securi<es •  With the addi<onal reserves, the banks can invest in securi<es, rather than making loans. •  Inves<ng in securi<es will give us the same result. Bank A Assets Reserves Bank A Liabili<es +$100 Checkable deposits +$100 Assets Reserves SecuriDes Liabili<es +$10 Checkable +$90 deposits +$100 •  The bank writes a $90 check to the seller of the securi<es, who in turn deposits the $90 at another bank, such as Bank B. •  Regardless of making loans or buying securi<es, the effect on deposit expansion is the same. 20 The Formula for Mul<ple Deposit Crea<on •  Assume that banks do not hold excess reserves. •  Required Reserves (RR) = Total Reserves (R) •  RR = r × D where r = required reserve ra<o D = checkable deposits •  r × D = R D = R/r (dividing both sides by r) Taking the change of both sides, = 21 Cri<que of the Simple Model •  Holding cash stops the process. –  If Bank A’s loans are all kept in cash, nothing will be deposited at Bank B. –  No further crea<ons are possible. •  Banks may not use all of their excess reserves to buy securi<es or make loans. –  In an extreme case, Bank A may keep all excess reserves. –  No loans can be made, so that no deposit crea<ons. •  Depositors’ decisions and bank’s decision also cause the money supply to change. 22 The Money Mul<plier •  As we have seen, the Fed has beler control on the monetary base than on reserves. •  Link money supply (M) to the monetary base (MB) and let m denote the money mul<plier: M = m × MB •  Note m > 1. ⇒ A $1 change in the monetary base leads to more than a $1 change in the money supply. 23 The Money Mul<plier •  The money mul<...
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