5 million they must sell securities or call in loans

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Unformatted text preview: 4 17 / 41 Bank Management Deposit Outflows - Borrowing The bank can borrow from the Federal Reserve: Bank 1 Assets Reserves $8.5M Loans $80M Securities $10M Liabilities Deposits $85M Bank Cap. $10M Fed Borrowings $3.5M They now have enough reserves to cover their shortfall. Ryan W. Herzog (GU) Money March 17, 2014 18 / 41 Bank Management Loan Write down What happens when there is a large decline loan values? Bank 1 Assets Liabilities Reserves $20M Deposits $100 Loans $60M Bank Cap. -$10M Securities $10M A loan write down (maybe home values fall) causes the value of assets to fall without changing liabilities. In this case the bank will become insolvent. Ryan W. Herzog (GU) Money March 17, 2014 19 / 41 The Fed The Fed Central bank of the United States (System of Banks) Headed by the Board of Governors (7 people elected to 14 year non-renewable terms, appointed by the POTUS and confirmed by the senate) Chairman of the BoG is Ben Bernanke (4 year, renewable term) 12 Regional Federal Reserve Banks (oversee commercial banks) Federal Open Market Committee (7 governors and 5 regional bank presidents) conducts monetary policy. Ryan W. Herzog (GU) Money March 17, 2014 20 / 41 Central Banking The Money Market The short-term interest rate is controlled by the Federal Reserve (called federal funds rate). The long-term interest rate (affect household borrowing) is determined in the loanable funds market. But remember the short-term interest rate determines the long-term interest rate. The federal funds rate is determined in the market for reserves (i.e. through open market operations). The money market determines the interest rate for money by equating money supply and money demand. You can think of this interest rate as the interest rate earned on your savings account. Money supply is controlled by the Federal Reserve and money demand is determined by households. Ryan W. Herzog (GU) Money March 17, 2014 21 / 41 Central Banking The Money Market (Figure 11.3) Ryan W. Herzog (GU) Money March 17, 2014 22 / 41 Central Banking Money Supply The money supply is primarily controlled by our central bank (The Federal Reserve). The Fed uses government bonds to buy and sell reserves from banks (called open market operations). If the Fed wants to increase lending they will increase reserves by buying the banks securities (called an open market purchase). This will cause an increase in bank lending. If the Fed wants to decrease lending they will decrease reserves by selling the banks securities (called an open market sale). Ryan W. Herzog (GU) Money March 17, 2014 23 / 41 Central Banking An Open Market Purchase Suppose we have the following balance sheet wi...
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