ECON 272

Out of Class Practice Problem on the Fractional Reserve Banking System

 

 

 Always show work on number problems!!

 

There is an initial deposit in First Federal Bank of $5,000.00.  The required reserve ratio is 5%.  Assume banks do not keep any excess reserves and people deposit all money into the banking system.  Answer the following questions based upon this information (assume a fractional reserve banking system):

 

    1. How much are First Federal Bank’s required reserves with this deposit? $_____________

 

 

 

    1. By how much do First Federal Bank’s excess reserves increase with this deposit? $__________________

 

 

    1. Assume First Federal loans out its excess reserves to Bo Bunch.  Bo buys a new boat with his loan and therefore writes a check on his new account to Carol Cash.  Carol then deposits this check in Second Federal Bank.  Second Federal Bank then must keep $__________________ as required reserves and it lends out $______________________ to Sally Super.  At this point in the process, by how much has the money supply increased (assuming the initial deposit is new money)? __________________.

 

 

 

 

    1. If this process continues and all checks are re-deposited back into the banking system, by how much will the money supply increase when the process is complete? $________________________