Question 1

Scenario 1: Fed Buys Bonds from Sheila Jones
Consider a banking system in which the reserve requirement is 10%, banks try not to hold excess reserves, consumers and firms hold money only in the form of checking account balances, and all loan proceeds are spent.Suppose initially all banks in the system are loaned up.Now, suppose that the Fed buys a $100,000 bond from Sheila Jones, who banks at the Perez Bank, and that she deposits her check in her checking account at Perez Bank.
-Refer to Scenario 1.Once the full impact of the Fed's open market purchase and Sheila's deposit worked its way through the banking system, what is the maximum change on the money supply as a result of these two events?

Accepted Answer

The answer of Scenario 1: Fed Buys Bonds from Sheila...

Question 2

Suppose the Fed purchases $1,000 of government securities from the general public who then deposit the proceeds into their checking accounts in commercial banks.Which pair of the T-accounts below shows this transaction?

Accepted Answer

In this transaction, the Fed purchases $1,000 of government securities from the general public. The Fed is an asset for the general public, so the Fed's assets increase by $1,000 while the general public's assets decrease by $1,000. The $1,000 is deposited into a checking account at a commercial bank, which is a liability for the bank and an asset for the depositor. Therefore, the commercial bank's liabilities increase by $1,000 while the general public's assets increase by $1,000.

The correct T-accounts to represent this transaction are:
- The Fed: 
Assets: +$1,000 (securities purchased)
Liabilities: No change

- Commercial bank: 
Assets: No change
Liabilities: +$1,000 (deposit from general public)

Choice B is the only option that correctly reflects this transaction.

Question 3

Suppose the Fed sells $1,000 of government securities to Commercial Banks.Which pair of the T-accounts below shows this transaction?

Accepted Answer

When the Fed sells government securities, it decreases its securities and the reserves of commercial banks. Commercial banks increase their securities holdings and decrease their reserves.

Question 4

Scenario 1: Fed Buys Bonds from Sheila Jones
Consider a banking system in which the reserve requirement is 10%, banks try not to hold excess reserves, consumers and firms hold money only in the form of checking account balances, and all loan proceeds are spent.Suppose initially all banks in the system are loaned up.Now, suppose that the Fed buys a $100,000 bond from Sheila Jones, who banks at the Perez Bank, and that she deposits her check in her checking account at Perez Bank.
-Refer to Scenario 1.Which of the following happens when Sheila Jones deposits the proceeds from the sale of her bond to the Fed into her checking account at the Perez Bank?

Accepted Answer

When Sheila Jones deposits the proceeds from the sale of her bond to the Fed into her checking account at the Perez Bank, Perez Bank's reserves increase by $100,000 because the Fed has created new reserves in the banking system through the purchase of the bond. Perez Bank's checkable deposits also increase by $100,000 because the deposit made by Sheila Jones is a new liability for the bank, which increases the overall supply of money in the banking system.

Question 5

Commodity money is paper currency that may be redeemed for a specific commodity at a specified rate on the currency.

Accepted Answer

Commodity money is a physical commodity, such as gold or silver, that serves as a medium of exchange. It is not paper currency that can be redeemed for a specific commodity.

Question 6

When the Fed purchases government bonds it _____ reserves and ____ the money supply.

Accepted Answer

When the Fed purchases government bonds, it increases bank reserves as the banks’ accounts with the Fed will be credited. As banks have more reserves, they can lend more, ultimately increasing the money supply. Therefore, the correct answer is D - increases reserves and increases the money supply.

Question 7

When the Fed _______ governments bonds it _______ bank reserves.

Accepted Answer

The answer of When the Fed _______ governments bonds it...

Question 8

Money is any item that is widely used and freely accepted as payment for goods and services.

Accepted Answer

This is the commonly accepted definition of money. Money can take the form of physical currency, such as coins and bills, or digital currency, such as credit or debit cards.

Question 9

Scenario 1: Fed Buys Bonds from Sheila Jones
Consider a banking system in which the reserve requirement is 10%, banks try not to hold excess reserves, consumers and firms hold money only in the form of checking account balances, and all loan proceeds are spent.Suppose initially all banks in the system are loaned up.Now, suppose that the Fed buys a $100,000 bond from Sheila Jones, who banks at the Perez Bank, and that she deposits her check in her checking account at Perez Bank.
-Refer to Scenario 1.As a result of Sheila's deposit, Perez Bank can increase its loans by

Accepted Answer

Since the reserve requirement is 10%, Perez Bank is required to hold $10,000 (10% of the deposit) in reserves and can use the remaining $90,000 to increase its loans. Therefore, the correct answer is B) $90,000.

Question 10

Scenario 2: Fed sells bonds to Henry Hyde
Consider a banking system in which the reserve requirement is 10%, banks try not to hold excess reserves, consumers and firms hold money only in the form of checking account balances, and all loan proceeds are spent.Suppose initially all banks in the system are loaned up.Now, suppose that the Fed sells a $50,000 bond to Henry Hyde, who pays for the bond by writing a check drawn against Jekyll Bank.
-Refer to Scenario 2.As a result of the open market sale, Jekyll Bank

Accepted Answer

When the Fed sells a bond to Henry Hyde, the money flows out of the banking system and Jekyll Bank loses reserves. Given that the reserve requirement is 10%, Jekyll Bank will have to replenish its reserve deficiency by borrowing reserves from the Fed or from other banks. Therefore, it cannot create new loans or have excess reserves. It may or may not have an increase in checkable deposits depending on whether there is a change in the behavior of consumers and firms.

Question 11

Scenario 1: Fed Buys Bonds from Sheila Jones
Consider a banking system in which the reserve requirement is 10%, banks try not to hold excess reserves, consumers and firms hold money only in the form of checking account balances, and all loan proceeds are spent.Suppose initially all banks in the system are loaned up.Now, suppose that the Fed buys a $100,000 bond from Sheila Jones, who banks at the Perez Bank, and that she deposits her check in her checking account at Perez Bank.
-Refer to Scenario 1.Immediately following Sheila's $100,000 deposit into her checking account, Perez Bank

Accepted Answer

The answer of Scenario 1: Fed Buys Bonds from Sheila...

Question 12

Scenario 2: Fed sells bonds to Henry Hyde
Consider a banking system in which the reserve requirement is 10%, banks try not to hold excess reserves, consumers and firms hold money only in the form of checking account balances, and all loan proceeds are spent.Suppose initially all banks in the system are loaned up.Now, suppose that the Fed sells a $50,000 bond to Henry Hyde, who pays for the bond by writing a check drawn against Jekyll Bank.
-Refer to Scenario 2.To collect the $50,000 payment made by Henry, the Fed

Accepted Answer

When Henry Hyde writes a check to pay for the bond, the value of Jekyll Bank's reserves decreases by $50,000. This is because the check will eventually clear and the money will be transferred out of Jekyll Bank to the Fed to pay for the bond. The Fed does not add or collect any reserves in this scenario. Since the reserve requirement is 10%, Jekyll Bank will need to hold $5,000 in reserves ($50,000 x 0.10) to meet the reserve requirement.

Question 13

When the Fed sells government bonds it ____ reserves and ______ the money supply.

Accepted Answer

When the Fed sells government bonds, it decreases reserves as it takes money out of the banking system. This leads to a decrease in the money supply, as there is less money available for lending and spending.

Question 14

A financial intermediary is an institution that collects funds from lenders and distributes these funds to borrowers.

Accepted Answer

This is the definition of a financial intermediary. Examples include banks, mutual funds, and insurance companies.

Question 15

Scenario 2: Fed sells bonds to Henry Hyde
Consider a banking system in which the reserve requirement is 10%, banks try not to hold excess reserves, consumers and firms hold money only in the form of checking account balances, and all loan proceeds are spent.Suppose initially all banks in the system are loaned up.Now, suppose that the Fed sells a $50,000 bond to Henry Hyde, who pays for the bond by writing a check drawn against Jekyll Bank.
-Refer to Scenario 2.Which of the following happens when Henry Hyde pays for the bond by writing a check from his checking account at the Jekyll Bank?

Accepted Answer

The answer of Scenario 2: Fed sells bonds to Henry...

Question 16

Banks play two primary roles in the economy: They take in deposits from savers and lend them to borrowers, and they facilitate purchases of goods and services by allowing people to write checks against their deposits.

Accepted Answer

This is true. Banks do take in deposits from savers and lend them to borrowers, and they also facilitate purchases of goods and services by allowing people to write checks against their deposits.

Question 17

The higher the discount rate, the greater the incentive for banks to hold excess reserves.

Accepted Answer

When the discount rate is high, it becomes more expensive for banks to borrow money from the Federal Reserve. Therefore, banks may choose to hold excess reserves instead of borrowing money at a high cost. This is because holding excess reserves is a cheaper alternative to borrowing from the Federal Reserve at a high discount rate.

Question 18

The Federal Reserve buys $10,000 of government securities from commercial banks.If the required reserve ratio is 25%, what is the maximum amount of change in the nation's money supply? Assume that no banks keep excess reserves and no individuals or firms hold cash.

Accepted Answer

The maximum amount of change in the money supply is given by the formula: 
Change in Money Supply = Change in Reserves / Reserve Ratio
Here, the Federal Reserve has bought $10,000 of government securities which increases the reserves of commercial banks by $10,000. The reserve ratio is 25%. Therefore, the change in money supply is:
Change in Money Supply = $10,000 / 0.25 = $40,000
Hence, the correct answer is C, the money supply will expand by $40,000.

Question 19

Scenario 2: Fed sells bonds to Henry Hyde
Consider a banking system in which the reserve requirement is 10%, banks try not to hold excess reserves, consumers and firms hold money only in the form of checking account balances, and all loan proceeds are spent.Suppose initially all banks in the system are loaned up.Now, suppose that the Fed sells a $50,000 bond to Henry Hyde, who pays for the bond by writing a check drawn against Jekyll Bank.
-Refer to Scenario 2.Once the full impact of the Fed's open market sale work its way through the banking system, what is the maximum change on the money supply as a result of these two events?

Accepted Answer

When the Fed sells a bond, it decreases the reserves in the banking system. With a reserve requirement of 10%, the money multiplier is 10. The initial $50,000 decrease in reserves leads to a maximum contraction of $500,000 in the money supply.

Question 20

If the reserve ratio is 10%, and banks do not hold excess reserves, when the Fed purchases $10 million of government bonds, bank reserves

Accepted Answer

The answer of If the reserve ratio is 10%, and...

Quiz 24: The Nature and Creation of Money