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Consider a new deposit to the Canadian banking system of \$1000.

Suppose that all commercial banks

have a target
Use the reserve
following ratio of
information on 10% and there
the banking systemisofno cash drain.
Highland Thethefollowing
following questions. how
Assume that the
actual reserves
deposits, equal and
reserves, desired reserves.
loans change as the new deposit permits the banks to “create” money.

Actual reserves in the banking system \$1,000

Total demand deposits \$5,000
Currency in circulation \$600

1. In Highland, the monetary base is___, and the money multiplier is___.
2. If the Bank of Highland sells \$500 worth of government securities, how will the money supply
change?
Use t-accounts to illustrate what happens to chartered banks’ balance sheets when each of the
following transactions occurs. (Don’t worry about the BoC’s balance sheet for this question.)

1. You withdraw \$500 from your checking account at the TD Bank to buy overpriced Hurricane’s
hockey game tickets.
2. Arthur finds a \$100 bill on the sidewalk and deposits it into his checking account at the TD
Bank.
3. Ben withdraws \$1,000 in cash from her checking account at the TD Bank, carries it to Montreal
and deposits it into her account at the BMO.
4. Using the simplified money (or deposit) multiplier, what will be the effect of each of the above
transactions on the money supply if the required reserve ratio is 12.5% and excess reserves are
zero?
Consider
Usea the
new following
deposit to theinformation
on the of \$1000.
banking Suppose
system that all commercial
of Highland banksthe
to answer have a target reserve
following ratio of 10%
questions.
and there is no cash drain. The following table shows how deposits, reserves, and loans change as the new deposit permits the banks to
Assume that the actual reserves equal desired reserves.
“create” money.
Round Change in Deposits Change in Reserves Change in Loans
1st \$1,000 \$100 \$100
\$900
2nd
3rd
4th
5th

1. Recalling that the new loans in the 1st round become the new deposits in the second round
complete the entire table
2. What is the total change in deposits so far (in the 5th round) as a result of the single new deposit
of \$1000?
3. What is the eventual total change in deposits in this case?
4. What is the eventual total change in reserves? What is the eventual change in loans?
Explain and illustrate what a \$50 billion increase in the money supply will do to real GDP given the
following assumptions. Show graphically what happens in the money market and goods market.
Also, show what happens to aggregate demand.

1. Each \$10 billion increase in the money supply reduces the interest rate by 0.5 percentage points
(50 basis points). What happens to the interest rate?
2. Each 1 percentage point decline in the interest rates stimulates \$30 billion worth of new
investment. What happens to total planned investment?
3. The expenditure multiplier for investment is 2. What happens to aggregate expenditure and
output?
4. The aggregate supply curve is flat (horizontal) indicating that prices don’t increase when
aggregate demand increases. What happens to output?