Answer to Question #51398 in Macroeconomics for oswald

Question

Assume that the banking system is loaned up and that any open-market purchase by the Fed directly increases reserves in the banks. If the required reserve ratio is 0.2, by how much could the money supply expand if the Fed purchased $2 billion worth of bonds?

Answer 1

We can use the following equatios:
Change in Money Supply = initial Excess Reserves x Money Multiplier
Money Multiplier = 1 / required reserve ratio
So,
Change in Money Supply =$2 billion x (1/0.2) = $ 10 billion
The money supply could expand by $ 10 billion