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Economics Homework Help

Question

1.Consider an economy in which initially there are no banks. Suppose that one consumer initially holds the entire money supply in the form of $1,000 in currency. Then assume a new bank is opened, The First National Bank, and the consumer deposits the entire $1,000 into the bank. Based on this scenario answer the following questions:

a Assuming that the First National Bank has a 100% reserve ratio, use a T account to show what effect this deposit will have.

b Still assuming a 100% reserve ratio, explain what effect this deposit will have on the economy’s total money supply.

c Show how the First National Banks T account will look, if instead it has a 10% reserve ratio and holds no excess reserves. (0.5 mark)

d Following form c. if other banks now open up and face a 10% reserve ratio, and assuming that every consumer holds her or his money as deposits instead of currency, explain what effect the initial deposit will eventually have on the money supply.

e Are consumers as a group wealthier when the banking system chooses a 10% reserve ratio. Explain the reasons for your answer.