Creation of Money Problem

Assume that the reserve requirement is 20 percent and banks hold no excess reserves.

a).  Assume that Kim Deposits 100 cash from her pocket into her checking account.  Calculate each of the following.

          i) The maximum dollar amount the commercial bank can initially

                   lend

          ii) The maximum total change in demand deposits in the banking

                   system

          (iii) The maximum change in the money supply

b).  Assume that the Federal Reserve buys $5 million in government bonds

on the open market.  As a result of the open market purchase, calculate the maximum increase in the money supply in the banking system. 

c) Given the increase in the money supply in part (b), what happens to real wages in the short run?  Explain.

The best way to answer was to create and fill in the following:

a)

Assets	Liabilities
RR	DD
ER	(New)

b)

Assets	Liabilities
RR	DD
ER	(New)