The reserve ratio is 20 percent. If the Fed buys $1 million of U.S. government securities and the check is deposited in Bank A, but Bank A increases its vault cash by the entire amount, then the money supply

Question

Quizplus · Accepted Answer

With a reserve ratio of 20%, the initial deposit of $1 million would allow Bank A to increase its reserves by $200,000 (20% of $1,000,000). However, if Bank A increases its vault cash by the entire amount, it will not need to hold additional reserves against the deposit. This means it can lend out the full $1 million, leading to an increase in the money supply by $1 million. Therefore, the correct answer is C.

The Reserve Ratio Is 20 Percent