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Brief Principles of Macroeconomics...

8th Edition
N. Gregory Mankiw
ISBN: 9781337091985

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BuyFindarrow_forward

Brief Principles of Macroeconomics...

8th Edition
N. Gregory Mankiw
ISBN: 9781337091985
Textbook Problem

Assume that the reserve requirement is 5 percent. All other things being equal, will the money supply expand more if the Fed buys $2,000 worth of bonds or if someone deposits in a bank $2,000 that she had been hiding in her cookie jar? If one creates more, how much more does it create? Support your thinking.

To determine

The increase in money supply from deposits and open market purchase.

Explanation

The Federal Reserve is the central bank of the US economy and it is usually known as the Fed. The Fed has the responsibility of keeping the economy controlled from fluctuations, and it has to control the money supply of the economy through its monetary policies. When the purchase of the government bonds from the public takes place, it will provide the money to the public which will increase the consumption in the economy. As a result of the multiplier effect, the money supply in the economy will increase by the multiplier times.

The depositing of money by the individual is already a part of the money supply of the economy because the currency held by the public is included in the money supply. Since the reserve ratio is 5 percent, the multiplier value of the economy can be calculated as follows:

Money multiplier=1Reserve ratio=10

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