Suppose banks decide to hold more excess reserves relative to deposits. Other things the same, this action will cause the money supply to
A)fall.To reduce the impact of this the Fed could sell Treasury bonds.
B)fall.To reduce the impact of this the Fed could buy Treasury bonds.
C)rise.To reduce the impact of this the Fed could sell Treasury bonds.
D)rise.To reduce the impact of this the Fed could buy Treasury bonds.

Question

Quizplus · Accepted Answer

When banks hold more excess reserves relative to deposits, they lend out less of their deposits, which decreases the money multiplier effect and thus reduces the money supply. To counteract this and increase the money supply, the Federal Reserve could buy Treasury bonds, which injects money into the banking system, encouraging more lending.

Suppose Banks Decide to Hold More Excess Reserves Relative to Deposits