Reference no: EM132405759
Short Answer Questions
1. Explain how each of the following events affects the monetary base, the money multiplier, and the money supply.
a. The Fed increases the interest rate it pays banks for holding reserves. When the Fed increases the interest rate, it pays banks to hold reserves.
b. The Fed flies a helicopter over 5th Avenue in New York and drops newly printed $100 bills.
c. Rumors about a computer virus attack on ATM machines increase the amount of money people hold as currency rather than demand deposits.
2. An economy has a monetary base of 1,000 $1 bills. Calculate the money supply in scenarios.
a. All money is held as demand deposits. Banks hold 100 percent of deposits as reserves.
b. All money is held as demand deposits. Banks hold 20 percent of deposits as reserves.
c. People hold equal amounts of currency and demand deposits. Banks hold 20 percent of deposits as reserves.
3. In a country Panicia, the monetary base is $1,000. People hold a third of their money in the form of currency (and thus two-thirds as bank deposits). Banks hold a third of their deposits in reserve.
a. What are the reserve-deposit ratio, the currency-deposit ratio, the money multiplier, and the money supply?
b. One day, fear about the banking system strikes the population, and people now want to hold half their money in the form of currency. If the central bank does nothing, what is the new money supply?
c. If, in the face of this panic, the central bank wants to conduct an open-market operation to keep the money supply at its original level, does it buy or sell government bonds? Calculate, in dollars, how much the central bank needs to transact.