Suppose that the required reserve ratio is 0.25. If a customer withdraws $10 million from a bank, then the money supply could potentially:

Question

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When a customer withdraws $10 million, the bank must reduce its reserves by $2.5 million (0.25 x $10 million) to maintain the required reserve ratio. This leads to a decrease in the bank's ability to lend by $7.5 million ($10 million - $2.5 million). Therefore, the money supply could potentially decrease by $30 million if all banks experienced the same level of withdrawals. However, if the banks were able to borrow from each other or the Federal Reserve to maintain their required reserves, the decrease in the money supply could be less than $30 million but it cannot increase. Therefore, the only possible answer is D.

Suppose That the Required Reserve Ratio Is 0