Consider the following situations.

a. Bank reserves are $100, the public holds $200 in currency, and the desired reserve-deposit ratio is 0.25. Find deposits and the money supply.

b. The money supply is $500 and currency held by the public equals bank reserves. The desired reserve-deposit ratio is 0.25. Find currency held by the public and bank reserves.

c. The money supply is $1,250, of which $250 is currency held by the public. Bank reserves are $100. Find the desired reserve-deposit ratio.

A.$600

B.$100

C. 0.1

Explanation:

Money supply equals to Currency held by the public + Bank reserves: Desired reserve-deposit ratio

Hence:

a. Deposits equal bank reserves : by the desired reserve-deposit ratio

= $100/0.25

= $400.

Money supply = currency held by the public + deposits

= $200 + $400

= $600.

b. Let X = currency held by the public = bank reserves.

Thus money supply equals X + X: by the desired reserve-deposit ratio

500 = X + 0.25

500 = 5X

X=$500/5

X = $100

Currency and bank reserves both equal $100.

c. If the money supply equals $1,250 and the public holds $250 in currency, then the bank deposits must equal $1,000 ($1,250-$250).

If bank reserves are $100, the desired reserve-deposit ratio

=100/1,000

=0.1