Assume the desired reserve ratio is 25 percent and the Bank of Canada buys $4 million of securities from the public.As a result of this transaction the supply of money is:
A)not directly affected, but the money-creating potential of the chartered banking system is increased by $12 million.
B)directly increased by $4 million and the money-creating potential of the chartered banking system is increased by $16 million.
C)directly reduced by $4 million and the money-creating potential of the chartered banking system is decreased by $12 million.
D)directly increased by $4 million and the money-creating potential of the chartered banking system is increased by $12 million.

Question

Quizplus · Accepted Answer

When the Bank of Canada buys $4 million of securities from the public, the money supply is directly increased by $4 million. However, the desired reserve ratio is 25 percent, which means that the chartered banking system can create up to $16 million (4/0.25) of new money by loaning out the $12 million excess reserves created by the Bank of Canada's purchase. Therefore, the money-creating potential of the chartered banking system is increased by $12 million.

Assume the Desired Reserve Ratio Is 25 Percent and the Bank