The non-bank public chooses among various financial assets in deciding in what form it wants to hold liquidity. It thereby increases or decreases
I. the M1 measure of money supply.
II. the reserves of commercial banks.
III. the reserves that commercial banks are required to hold.

Question

The non-bank public chooses among various financial assets in deciding in what form it wants to hold liquidity. It thereby increases or decreases 
I. the M1 measure of money supply.
II. the reserves of commercial banks.
III. the reserves that commercial banks are required to hold.

Quizplus · Accepted Answer

The non-bank public choosing to hold financial assets in a certain form affects both the M1 measure of money supply and the reserves of commercial banks. By holding more cash and demand deposits, M1 increases. This also increases the reserves that commercial banks hold because they have to hold a certain percentage of deposits as reserves. However, this does not affect the reserves that commercial banks are required to hold as that is determined by the Fed. Therefore, choices I and II are the correct options. Choice B is incorrect as it includes III, which is not affected by the non-bank public's decision. Choice A is incorrect as the Fed is not the only entity that can alter the money supply.

The Non-Bank Public Chooses Among Various Financial Assets in Deciding