Microsoft Word - Money, Banking, and Int Finance(scribd).docx

Money, Banking, and International Finance

The M2 money multiplier exceeds the M1 always. Furthermore, we can derive the money
multipliers for M3 and L similarly. Of course, these multipliers would be larger than M2 and
M1. Consequently, economists can measure the sophistication of a country’s financial system by
comparing the money definitions and their money multipliers. If a country’s money multipliers
are close together, then this country small, undeveloped financial markets. If these multipliers
diverge greatly, subsequently, this country possesses sophisticated financial markets.
Fed has problems implementing monetary policy if the money multipliers are unstable.
Although the Fed can control the monetary base precisely (B), it only influences the money
supply. The Fed sets the required reserve ratio, but the public determines the currency-deposit
ratio, and the banks decide the level of excess reserves to hold. Hence, we conclude the Fed
cannot control the money supply precisely.

Key Terms

monetary base
currency in circulation
vault cash
bank reserves
required reserve ratio
required reserves
excess reserves
open-market operation
open-market purchase

open-market sale

discount loan

discount rate

multiple deposit expansion

simple deposit multiplier

multiple deposit contraction

currency-deposit ratio

money multiplier

Chapter Questions

1. Identify the assets and liabilities on the Fed’s balance sheet.


2. Defines the money multiplier and identify the parties who influence the money multiplier.


3. Required reserve ratio equals 5%; the banks hold zero excess reserves, and the public does
   not withdraw money out of their currency accounts. Calculate the change in the M1
   definition of the money supply if the Fed purchases $50,000 in U.S. government securities.


4. Required reserve ratio equals 20%; the banks hold zero excess reserves, and the public does
   not withdraw money out of their currency accounts. Compute the change in the M1
   definition of the money supply if the Fed sells $10,000 in U.S. government securities.


5. Required reserve ratio equals 10%, and the banks hold zero excess reserves. Calculate the
   change in the M1 definition of the money supply if a person deposits $1,000 in cash into his
   checking account.