Econ Test 3 - The Money Supply Process Flashcards
What is the central bank called in the United States?
The Federal Reserve System
The government agency that oversees the banking system and is responsible for the conduct of monetary policy
The central bank
Depository Institutions
Banks
Financial Intermeditaries that accept deposits from indiv. and instit. and make loans
Banks
What encompasses savings and loans associations, mutual savings, and credit unions?
banks
Individuals and instituttions that hold deposits in banks
Depositors
Which of the three players are most important?
The federal reserve system
What does a simplified balance sheet contain?
Assets - securities, loans to financial institutions
Liabilities - Currency in circulation, reserves
What is currency in circulation and reserves normally referred to as?
monetary liabilties of the fed
An increase in currency in circulation and reserves will lead to what?
increase in money supply
What is the sum of the Fed’s monetary liabilites and the US treasury’s liabilites?
Monetary base
The amount of currency in the hands of the public
currency in circulation
Currency held by depository institutions is counted as part of what?
the reserves
IOUs from the fed to bearer
Federal Reserve notes
Consist of deposits at the Fed plus currency that is physically held by banks
Reserves
Are reserves assets or liabilties for banks?
assets
Are reserves assets or liabilties for the Fed?
liabilities
An increase in reserves leads to an increase in what?
level of deposits and the money supply
Reserves that the Fed require banks to hold
required reserves
Any additonal reserves the banks choose to hold
excess reserves
The fraction of money deposited that the Fed requires to be held in reserves
Required reserve ratio
Canges to the asset items lead to changes in?
Reserves, monetary base, money supply
Why are assets on the Fed’s balance sheet important?
- The assets earn higher interest than the liabilites and the Feds make billions off of this
- Changes in assets lead o changes in the money supply
The primary way the Fed provides reserves to the banking system
purchasing securities
An increase in government or other securities held by the Fed leads to an increase in?
money supply
Another way the Fed can provide reserves to the banking system besides securities?
making loans to banks and other financial institutions
Loans made by the Feds are referred to as?
Borrowed reserves
How do Fed loans appear on financial institution’s balance sheets?
liability
The interest rate charged to banks for the Fed loans is?
discount rate
The monetary base =
MB = C + R
Monetary Base = circulation + reservers
How does the Federal Reserve exercise control over the monetary base?
THrough its purchases or sales of securites called open market operations
A purchase of bonds by the Fed is called?
Open market purchase
A sale of bonds by the Fed is called?
Open market sal
What do T-accounts list?
Only the changes that occur in balance sheet items
Suppose the Fed purchases $100 million of bonds from banks with a check. How does this affect the Banking System and Fed T-account?
Banking: +100 mil Reserves, -100mil Securities under assets
Fed: +100mil Securities under assets
+100mil Reserves under liabilies
A person or corporation sells 100mil of bonds to the Fed and deposit the Fed’s check in their local banks. How are the T-accounts affected?
Nonbank public: -100mil in securities under assets
+100mil in checkable deposits under assets
Banking system:+100mil checkable deposits under liabil
+100mil reserves under assets
Fed Reserve: +100mil securities under assets
+100mil reserves under liabilties
When are the results of the Fed’s open market purchase from nonbank public and from a bank identical?
when the check is deposited in the bank
If the person or corporation selling the bonds to the Fed cash the Fed’s check at a bank for currency how are T-accounts affected?
Nonbank public: -100mil in securities under assets
+100mil in currency under assets
Federal Reserve: +100mil in securities under assets
+100mil in currency in circulation under liabilties
What does the effect of an open market purchase on reserves depend on?
whether the seller of the bonds keeps the proceeds from the sale or deposits the proceeds
If the proceeds are kept in the currency then how does the open market purchase affect reserves?
It has no effect.
If proceeds from an open market purchase are kept as deposits then how are reserves affected?
Reserves increase by the amount of the open market purchase
The effect of an open market purchase on the monetary base is always what?
The same whether the seller of the bonds keeps or deposits the curency. The monetary base increases by the amount of the purchase.
If the Fed sells 100mil of bonds to banks or the nonbank public, how will the monetary base be affected?
decrease by 100mil
If the Fed sells bonds to individuals who pay for them with currency how are t-accounts affected?
Nonbank Public: +100mil to securities under assets
-100mil to currency under assets
Federal Reserve: -100mil to securities under assets
-100mil to currency in circ under liabilities
When does the Fed monetary liability decrease?
When currency is accepted for bonds because currency is taken out of circulation
What falls when buyers of the bonds pay for the bonds with checks?
The level of reserves
Is the effect of open market operations more certain on the monetary base or the reserves?
monetary base
A shift from deposits to currency will affect what?
reserves in the banking system
Does the Fed have more control over reserves or the monetary base?
the monetary base because a shift from deposits to currency won’t affect the monetary base
During the Christmas season, the public wants to hold more currency to buy gifts and so it withdraws $100mil in cash. How are t-accounts affected?
Nonbank public: -100mil checkable deposits in assets
+100mil currency in assets
Banking System:-100mil reserves in assets
-100mil checkable deposits in liabilities
Federal Reserve:+100mil currency in circ under liabilities
-100mil reserves in liabilties
How are t-accounts affected when the Fed makes a 100mil loan to the First National Bank?
Banking System:+100mil Reserves under assets
+100mil Loans under liabilties
Federal Reserve:+100mil Loans under assets
+100mil Reserves under liabilties
If a bank pays off a loan from the Fed, reducing its borrowings from the Fed by 100mil how are T-accounts affected?
Banking: -100mil Reserves under assets
-100mil Loans under liabilties
Federal Reserve: -100mil Loans under assets
-100mil Reserves under liabilities
What two items affect the monetary base but aren’t controlled by the Fed?
Float
Treasury deposits at the Fed
The temporary increase in the total amount of reserves in the banking system occuring from the Fed’s check-clearing process is?
float
How does the Fed’s check clearing process work?
Credits the amount of the check to a bank that deposited it (inc reserve) before it debits (dec reserve)the bank that drew it.
Is float affected by random events such as weather?
yes
What leads to the increase in Treasury deposits at the Fed?
When the U.S. treasury moves deposits from commercial banks to its account at the Fed
How does an increase in Treasury deposits at the Fed affect the monetary base?
Causes a deposit outflow and causes reserves and the monetary base to decrease
The two primary features that determine monetary base?
Open market operations
Lending to financial institutions
Who sets the discount rate?
The federal reserve
The remainder of the base that is under the Fed’s control and results primarily from open market operations
Nonborrowed monetary base
Nonborrowed monetary base =
MB - BR
Monetary base - Borrowed Reserves
Do float and treasury deposits undergo long or short term fluctuations?
short
The process when the Fed supplies the baking system with $1 of additional reserves and deposits increase by a multiple of that amount
Multiple deposit creation
When the bank makes the loan, what does it do for the borrower and with the proceeds?
Sets up a checking account for the borrower
Puts the proceeds of the loan into this account
How does setting up a checking account after a loan affect the banks t-account?
Liabilities increase with +100mil of checkable deposits
Assets increase with +100mil of loans
Can a bank make a loan for an amount greater than the excess reserves it has before it makes the loan?
NO
$100mil of deposits created by the First National Bank is deposited in Bank A. What does Bank A’s t-account look like?
Bank A: +100mil reserves in assets
+100mil checkable deposits in liabilities
If reserves are $100mil and the required reserve ratio is 10%, how much will required reserves increase and what happens to the excess reserves?
10million, leaving 90million of excess reserves
What will a bank do because it does not hold on to excess reserves of 90mil?
Make loans for the entire amount
If the money spent by the borrowers to whom Bank A lent the $90 million is deposited in another bank, such as Bank B, then the T-account for Bank B will be?
Bank B: +90mil reserves in assets
+100mil checkable deposits in liabilities
If Bank B must keep 10% of $90million as required reserves, what are the reserves and what is the excess? How much can the loan be?
$9mil in reserves
$81mil in excess
$81mil in loans
A bank cannot make loans greater in amount than its excess reserves
A bank cannot make loans greater in amount than its excess reserves
The multiple increase in deposits generated from an increase in the banking system’s reserves is?
simple deposit multiplier
If some proceeds from loans are not deposited in banks, but instead are used to raise the holdings of currency then what happens to the money supply?
Will not increase as much as our simple model of multiple deposit creation tells us
One situation where the simple model doesn’t work as intended
When banks do not make loans or buy securities in the full amount of excess reserves
The money supply is pos/neg related to the nonborrowed monetary base
positively
The money supply is pos/neg related to the level of borrowed reserves
positively
The money supply is pos/neg related to the required reserve ratio
negatively
The money supply is pos/neg related to currency holdings
negatively
The money supply is pos/neg related to the amount of excess reserves
negatively
Nonborrowed monetary base of the Fed increases, how does the money supply respond?
increases
Required reserve ratio of the Fed increases, how does the money supply respond?
decreases
Borrowed reserves of the Banks increases, how does money supply respond
increases
Excess reserves of the banks increase, how does the money supply respond?
decreases
Currency holdings of the depositors increases, how does money supply respond?
decreases
Nonborrowed monetary base of the fed decreases, how does money supply respond?
decrease
Required reserve ratio of Fed decreases, how does money supply respond?
increases
Borrowed reserves of the bank decreases, how does money supply respond?
decreases
Excess reserves of the banks decreases, how does money supply respond?
increases
Currency holdings of depositors decreases, how does money supply respond?
increases
Money multiplier formula
M = m x MB
Money supply = money multiplier x monetary base
The three players in the money supply process are?
central bank
banks
despositors
Four items in the Fed’s balance sheet that are essential are
currency in circulation
reserves
securities
loans
What two items make up liabilities
currency in ciruclation
reserves
What two items make up the monetary base?
Currency in circulation
Reserves
What two items make up assets?
Securities
Loans
How does the banking system create a multiple expansion of deposits?
each bank makes a loan and creates a deposit, the reserves find their way to another bank which are used to make more loans
Making a loan creates a?
deposit
The monetary base is linked to the money supply using the concept of?
the money multiplier
Loans from the Fed made directly to the banks?
discount loans
