The following is information about a banking system: new currency deposited in the system = $40 billion; desired reserve ratio = 20%; excess reserves prior to the new currency deposit = $0.Refer to the above information.The banking system will be able to expand the money supply through loans by:
A)$160 billion.
B)$200 billion.
C)$40 billion.
D)$128 billion.

Question

Quizplus · Accepted Answer

The banking system can expand the money supply by a multiple of the new deposits. With a reserve ratio of 20%, the money multiplier is 1/0.20 = 5. Therefore, the potential expansion of the money supply is $40 billion * 5 = $200 billion. However, since $40 billion is already deposited, the additional expansion through loans is $200 billion - $40 billion = $160 billion.

The Following Is Information About a Banking System: New Currency