On a certain date, the banking system had $40 billion in excess reserves. The legally required reserve ratio was 20 percent. Potentially, if these funds were loaned and eventually the entire amount re-deposited with a bank, the banking system as a whole could increase the money supply by
A) a maximum of $40 billion.
B) a maximum of $160 billion.
C) a maximum of $200 billion.
D) more than $200 billion.

Question

Quizplus · Accepted Answer

The excess reserves of $40 billion can support loans up to $200 billion ($40 billion/20%). This means that if all of these funds were loaned out and eventually redeposited with a bank, the banking system could increase the money supply by a maximum of $200 billion. Therefore, option C is the correct answer.

On a Certain Date, the Banking System Had $40 Billion