Finance, Forex and Investments - Assume there is no leakage from the banking system and that all commercial banks are loaned up. The required r?

Assume there is no leakage from the banking system and that all commercial banks are loaned up. The required r?

Assume there is no leakage from the banking system and that all commercial banks are loaned up. The required reserve ratio is 10%. If the Fed buys $10 million worth of government securities from the public, the change in money supply will be (a) $10 million (b) $1 million (c) $110 million (d) 100 million

Public Comments

This question makes no sense: 1. The Fed doesn't buy securities from "the public"; it buys from banks and primary dealers. http://en.wikipedia.org/wiki/Primary_dealer http://www.newyorkfed.org/markets/pridealers_current.html 2. If it were buying from the public, then there is no guarantee any of the money gets into the banking system at all. The public could spend it on anything it likes. 3. Even if it does get saved and in the banking system, there is no reserve requirement on savings account (time) deposits. http://www.federalreserve.gov/monetarypolicy/reservereq.htm Banks can lend out as much of the savings accounts as they want, and Wall Street has recently been leveraging at the 30-40X rate (corresponding to a reserve of 2.5 - 3%) 4. Furthermore, in the real world, banks lend as much as they can and worry about fixing up their reserves afterwards. It is not a case of reserves limiting or generation money creation: http://en.wikipedia.org/wiki/Endogenous_money In fact, banks are sitting on over $1 trillion of excess reserves right now - reserves that, in theory, could fund $10 trillion in loans and increased money supply but haven't. http://research.stlouisfed.org/fred2/series/EXCRESNS http://www.federalreserve.gov/releases/h6/current/ But if you want to consider this a toy problem in an oversimplified model of fractional reserve banking: http://en.wikipedia.org/wiki/Money_multiplier#Reserves_first_model http://en.wikipedia.org/wiki/Money_creation#Money_creation_through_the_fractional_reserve_system http://en.wikipedia.org/wiki/Fractional-reserve_banking