ECON 105 D100 Principles of Macroeconomics

Summer 2021

Assignment 06
Sarah Abraham
Due by Friday, July 28, 11:59 PM (Vancouver Time).
Late submission:

• less than 24 hrs late = 2 points deducted

• 24-48 hrs late = 4 points deducted
• more than 48 hrs late = 0 points awarded

1. Let us say there is a new deposit to the Canadian banking system of $2,000. Suppose that all
commercial banks have a target reserve ratio of 5% and there is no cash drain. The following
table shows how deposits, reserves, and loans change as the new deposit permits the banks to
create money.

Round ∆ Deposits ∆ Reserves ∆ Loans

st
1 $2,000 $100 $1,900
2nd ______ ______ ______
3rd ______ ______ ______
4th ______ ______ ______
5th ______ ______ ______

a. The first round has been completed in the table. Now, recalling that the new loans in the
first round become the new deposits in the second round, complete the second round in
the table. Then by using the same approach, complete the entire table. (1)

(see below picture attached)

Change in Reserves = Deposits * Target Reserve ratio

Change in Loans = Deposits - Target reserve amount

1
 b. This deposit-creation process could go on forever, but it would still have a finite sum.
What is the eventual total change in deposits in this case? (1)

Money multiplier = 1 divided by reserve ratio = 1 /5% = 20

2. Suppose there's a new deposit of $50,000 to the Canadian banking system. Assume that all the
commercial banks have the target reserve ratio of 4% and the public wants to hold 5% of all
money in the form of cash (that is, the cash drain ratio is v = 0.05).

a. What will be the eventual total change in the amount of deposits in the banking system?
Show your calculations. (1)

Deposits at the beginning = $50,000

v = 0.05. The deposits will consider the cash drain ratio =50000 - (50000 * 0.05)

= 50000 - 2500

= $47500

b. What is the eventual total change in the amount of loans? What is the eventual total
change in the amount of reserves? Show your calculations. (1)

2
 Reserves = 8% of $47500

= 0.08 * 47500

= $3800

the amount left for lending loans to the public = Deposits after considering
the cash drain ratio - Reserves.

= $47500 - $3800 = $43700

3. During the 20th century there were many technological changes in money market (e.g., ATMs,
debit cards) that made it much less necessary to carry cash in order to make purchases. Explain
how these developments would influence the care drain ratio. Then explain how these
developments would influence the money supply created by the Canadian banking system. (2)

It is true to say that with the emergence of many technologies during the 20th century, the
result of these changes shaped the economy. Particularly, technologies like ATM, plastic cards,
net banking, online prepaid cards (master card, visa cards, e-gift cards) etc. The need to carry
cash became less required due to transactions being processed through other advanced
technological means (debit machines). These new technologies have aided economies to move
towards from less cash economy and therefore, reducing cash drain ration. This is because
people are holding less of cash and transforming their money into banking by using the facilities
provided by financial initiations (banks). Consequently, these advanced developments will
increase the money supply and provide a proper facilitation or flow of money. Furthermore, cash
can be transferred, taken out from ATMs easily as and whenever needed. Thus, people who
frequent ATMs to deposit, will end up depositing more cash than holding it. In turn, this will
help banks to lend more as increase in deposits will increase their ability to lend more. This is the
reason why money supply will increase also; better flow of money and liquidity of money will
take place.