In a simplified banking system with a 20 percent required reserve ratio, a $1,000 open-market sale by the Fed would cause the money supply to:
A) increase by $200.
B) decrease by $200.
C) decrease by $5,000.
D) increase by $5,000.

Question

Quizplus · Accepted Answer

A $1,000 open-market sale by the Fed would decrease reserves by $1,000. With a 20% reserve ratio, the money multiplier is 1/0.2 = 5. Therefore, the money supply would decrease by $1,000 x 5 = $5,000.

In a Simplified Banking System with a 20 Percent Required