During the second half of 2008, the Fed approximately doubled the reserves of the commercial banking system. As a result, the M1 money supply
A) fell sharply, because the banks used the excess reserves to extend additional loans.
B) also approximately doubled.
C) was unchanged, because bank reserves will not affect the M1 money supply.
D) increased, but by a much smaller amount, because the banks used only a small portion of their excess reserves to extend additional loans.

Question

During the second half of 2008, the Fed approximately doubled the reserves of the commercial banking system.  As a result, the M1 money supply
A) fell sharply, because the banks used the excess reserves to extend additional loans.
B) also approximately doubled.
C) was unchanged, because bank reserves will not affect the M1 money supply.
D) increased, but by a much smaller amount, because the banks used only a small portion of their excess reserves to extend additional loans.

Quizplus · Accepted Answer

The M1 money supply increased by a smaller amount because banks held onto most of the excess reserves instead of using them to make loans, which would have more significantly increased the money supply.

During the Second Half of 2008, the Fed Approximately Doubled