Reference no: EM132517915

Metropolitan Bank has total assets of Rs. 100 million, including bonds of Rs. 80 million. Its demand deposits are Rs. 100 million, and the reserve ratio is 20%. It's T-account is balanced.

The SBP buys the Rs. 80 million Metropolitan Bank is holding in the form of bonds. By what amount, if any, do reserves of this bank change? You must talk about both required and excess reserves

b. Would this open market purchase of the SBP lead to any change in the money supply in this case? If so, explain how, and by how much, at maximum in the entire banking system?

ii. a. I take a house loan from Standard Chartered Bank, pocket the money, go buy a house, and pay my real estate agent the whole loan amount on completion of the transaction. The dealer deposits the money in a Swiss bank account. By how much has the money supply changed? Explain

b. Why is the SBP worried about people like this real estate agent? Think about how it affects the ability of the SBP to perform one of its main functions

Question 2

The SBP is now fearing that COVID-19 is going to have a recessionary impact on the economy of Pakistan. It is being expected that many commercial banks may not be able to repay their debts and could go out of business. The SBP announced reserve ratio is 10%.

a. What would this lead to in the immediate term?

A common characteristic of all recessions is a rise in the bankruptcy rate. The debt of bankrupt companies, largely held by banks, becomes highly discounted or worthless and will lead some deposit holders to fear for the solvency of their bank.

b. I hear this on the news and withdraw Rs. 10 lakh from my account the next day and put it in my safe at home. What happens to the bank when I withdraw this money? Think about the process we did in the lecture, but in reverse. You can use the book to draw T-accounts to illustrate your answer. Remember that the T-account must balance. You can stop after the second bank, and then show the overall effect on money supply in the entire banking system

c. By how much has the money supply changed by the time this process ends?

d. The effect on money supply could actually be much larger than this as banks will become more cautious-they worry that their borrowers might not be able to repay fresh loans taken during the economic lockdown induced by COVID-19. What other impact could this bank behaviour have on the macroeconomy?

e. In these circumstances, which of the 3 roles of the SBP should be highlighted in the press release expected on May 15th regarding Pakistan's new COVID-19 monetary policy? You don't need to give the policy, just the message that the SBP would like to give consumers and banks about SBP role in the banking sector.