QUESTION FOR REVIEW

1. What distinguishes money from other assets in the economy?

Answer :
Money have 3 characteristic that make it different with other assets, the 3
characteristic are a medium of exchange, which is money can be a reliable
source for measuring an exchange. Second, is a unit of account, which people
use to post the price and record the debts. And last is store a value, a person who
receive money now, can use money to buy another things in the future.

2. What is commodity money? What is fiat money? Which kind do we use?

Answer :
Commodity money is a type of money which have same (or almost) value with
the intrinsic value. The example of commodity money is like gold, silver, etc.
Fiat money is the money that doesn’t have similar intrinsic value with the value
that stamped in the money, the example is our paper rupiahs in our wallet.

3. What are demand deposits and why should they be included in the stock of
money?
Answer :
Demand deposits is the balances in bank accounts that depositors can accesses
on demand by writing a check or swiping a debit card. Demand deposits should
be included in the stock of money because banks can easily transfer from saving
accounts which is part of stock money to the checks.

4. Who is responsible for setting monetary policy in the United States? How is this
group chosen?
Answer :
The responsibility is given to Federal Reserve or often called Fed. Fed is one of
central bank example which concerning the monetary system. This group
chosen by the presidents then approved by senate.

5. If the Fed wants to increase the money supply with open-market operations,
what does it do?
Answer :
Fed will creates dollars and then buying government bonds in public bonds
market, after the purchase of the bonds, the money will be in public hands
because the public will receive some money from the result of selling bonds.

6. Why don’t banks hold 100 percent reserves? How is the amount of reserves
banks hold related to the amount of money the banking system creates?
Answer :
If the banks hold 100 percent value, the money supply is unchanged because the
banks wouldn’t supply money and the bank wouldn’t get a profit for only
 keeping the money in their vault without lending. The amount of reserves
related to if the deposit wants to make a withdrawals, the bank should have
amount of money to pay that, the ratio is also regulated by the government.

7. Bank A has a leverage ratio of 10, while Bank B has a leverage ratio of 20.
Similar losses on bank loans at the two banks cause the value of their assets to
fall by 7 percent. Which bank shows a larger change in bank capital? Does
either bank remain solvent? Explain.
Answer :

8. What is the discount rate? What happens to the money supply when the Fed
raises the discount rate?
Answer : Discount rate is the interest rate that Fed make to the banks. If
Fed raises the discount rate will discourage banks to borrow to the Fed which
will decrease the money supply in the public.

9. What are reserve requirements? What happens to the money supply when the
Fed raises reserve requirements?
Answer : Reserve requirements is the amount of reserve that the bank
must hold to pay some equity, the reserve can’t loaned to the public. If Fed
increases the reserve requirements, the reserve ratio is higher and make the
money multiplier lower, so the money supply is decreasing.

10. Why can’t the Fed control the money supply perfectly?
Answer : Fed does not control the household amount of money supply,
then Fed does not control the amount of money that the bank lend and last, the
behavior of borrowers and lenders can’t be predicted

MULTIPLE CHOICE
1. The money supply includes all of the following
EXCEPT
a. metal coins.
b. paper currency.
c. lines of credit accessible with credit cards.
d. bank balances accessible with debit cards
ANSWER :C
2. Chloe takes $100 of currency from her wallet and deposits it into her checking
account. If the bank adds the entire $100 to reserves, the money supply
_________, but if the bank lends out some of the $100, the money supply
_________.
a. increases, increases even more
b. increases, increases by less
c. is unchanged, increases
d. decreases, decreases by less
ANSWER :A
3. If the reserve ratio is ¼ and the central bank increases the quantity of reserves in
the banking system by $120, the money supply increases by
a. $90.
b. $150.
c. $160.
d. $480
ANSWER :D
4. A bank has capital of $200 and a leverage ratio of 5. If the value of the bank
assets decline by 10 percent, then its capital will be reduced to
a. $100.
b. $150.
c. $180.
d. $185.
ANSWER :A
5. Which of the following actions by the Fed would reduce the money supply?
a. an open-market purchase of government bonds
b. a reduction in banks’ reserve requirements
c. an increase in the interest rate paid on reserves
d. a decrease in the discount rate on Fed lending
ANSWER :A
6. In a system of fractional-reserve banking, even without any action by the central
bank, the money supply declines if households choose to hold _________
currency or if banks choose to hold _________ excess reserves.
a. more, more
b. more, less
c. less, more
d. less, less
ANSWER :D
 PROBLEM AND APLICATION

7. 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!
Answer:
The money supply will expand more if the Fed buys $2,000 worth of bonds. Both deposits
will lead to monetary expansion. But the Fed’s deposit is new money. The $2,000 from the
cookie jar is already part of the money supply.

8. Suppose that the reserve requirement for checking deposits is 10 percent and that banks do not
hold any excess reserves.
a. If the Fed sells $1 million of government bonds, what is the effect on the economy’s reserves
and money supply?
b. Now suppose the Fed lowers the reserve requirement to 5 percent, but banks choose to hold
another 5 percent of deposits as excess reserves. Why might banks do so? What is the overall
change in the money multiplier and the money supply as a result of these actions?
Answer:
a. With a required reserve ratio of 10% and no excess reserves, the money multiplier is 1/.10 =
10. If the Fed sells $1 million of bonds, reserves will decline by $1 million and the money
supply will contract by 10 x $1 million = $10 million.
b. Banks might wish to hold excess reserves if they need to hold the reserves for their day-to-day
operations, such as paying other banks for customers' transactions, making change, cashing
paychecks, and so on. If banks increase excess reserves such that there is no overall change in
the total reserve ratio, then the money multiplier does not change and there is no effect on the
money supply.

9. Assume that the banking system has total reserves of $100 billion. Assume also that required
reserves are 10 percent of checking deposits and that banks hold no excess reserves and
households hold no currency.
a. What is the money multiplier? What is the money supply?
b. If the Fed now raises required reserves to 20 percent of deposits, what are the change in
reserves and the change in the money supply?
Answer:
a. Money multiplayer is the amount of money the banking system generates with each dollar of
reserve. The money supply is the entire stock of currency and other liquid instruments
circulating in a country's economy as of a particular time. The money supply can include cash,
coins and balances held in checking and savings accounts. Economists analyze the money
supply and develop policies revolving around it through controlling interest rates and
increasing or decreasing the amount of money flowing in the economy.
b. Suppose the Fed raises required reserves to 20 percent of deposits. The new money multiplier
is 5 and the money supply (increases/decreases) to $500 billion.
10. Assume that the reserve requirement is 20 percent. Also assume that banks do not hold
excess reserves and there is no cash held by the public. The Fed decides that it wants to expand
the money supply by $40 million.
a. If the Fed is using open-market operations, will it buy or sell bonds?
b. What quantity of bonds does the Fed need to buy or sell to accomplish the goal? Explain
your reasoning.
Answer :
a) Open market operations are one of the tools that is used to control the money supply. It refers
to the purchase or sale of government securities or bonds to expand or contract the supply of
money. So, when the Federal Reserve decides to expand the money supply by $40 million
dollars, it will buy bonds from the public. In the process of purchase, money is transferred from
the buyer (The Fed) to the seller (the public) which in turn increases the money supply.
b) Assume that the reserve requirement is 20 percent. Also assume that banks do not hold
excess reserves and there is no cash held by the public. The Federal Reserve decides that it
wants to expand the money supply by $40 million using open-market operations. In order to
accomplish its goal, the Fed needs to buy million worth of bonds.

11. The economy of Elmendyn contains 2,000 $1 bills.

a. If people hold all money as currency, what is the quantity of money?
b. If people hold all money as demand deposits and banks maintain 100 percent reserves,
what is the quantity of money?
c. If people hold equal amounts of currency and demand deposits and banks maintain 100
percent reserves, what is the quantity of money?
d. If people hold all money as demand deposits and banks maintain a reserve ratio of 10
percent, what is the quantity of money?
e. If people hold equal amounts of currency and demand deposits and banks maintain a
reserve ratio of 10 percent, what is the quantity of money?
Knowing that the economy of Elmendyn contains 2,000 $1 bills:
a. If people held all money as currency, the money is circulated in the economy. The quantity
of money would be $ 2000.
b. If people hold all money as demand deposits, and banks maintain 100 percent reserves, the
quantity of money will still be $ 2000. Demand deposit is an account that lets you
withdraw without further notice. A bank reserve is the currency that the bank does not
lend to the public. In this situation, the money circulating in the economy is $ 2000.
c. If people hold equal amounts of currency and demand deposits, and banks maintain 100
percent reserves, the quantity of money is $ 2000. In this situation, the currency is $1000
and the demand deposit is another $1000. With this the total amount of money circulating
in the economy is $ 2000.
d. If people hold all money as demand deposits and banks maintain a reserve ratio of 10
percent, the answer is $20 000. The calculation can be done through this:
10 x (2,000 - C)=D
When all money is held as a deposit, there is no currency (C=0)
So 10 x (2,000 - 0) = D
D = $20,000
e. If people hold equal amounts of currency and demand deposits and banks maintain a
reserve ratio of 10 percent, the quantity of money is $3,636. In this situation, it is given
that the amount of currency is equal to the amount of demand deposit.
So the calculation is this:
10 x (2,000-C)=D
10 x (2,000-D)=D
$20,000 - 10D =D
$20,000 =11D
1,818=D
Since C=D, C is also 1,818
C+D= $3,636