Assume that the banking system has $200 billion in reserves.There are no excess reserves in the system.If the reserve requirement is decreased from 10 percent to 8 percent, what will happen to the level of excess reserves in the system?
A)There will be a deficiency of $40 billion in reserves.
B)There will be a deficiency of $20 billion in reserves.
C)There will be $20 billion in excess reserves.
D)There will be $40 billion in excess reserves.

Question

Quizplus · Accepted Answer

With a decrease in the reserve requirement from 10 percent to 8 percent, the required reserves for banks will decrease. This means that banks can lend out more money and hold fewer reserves. The initial reserve level was $200 billion, which satisfied the 10 percent reserve requirement for a banking system with a total deposit of $2 trillion (calculated as 0.10 x $2 trillion = $200 billion). With a decrease in the reserve requirement to 8 percent, the required reserves will now be 0.08 x $2 trillion = $160 billion. This means that banks now have excess reserves of $40 billion ($200 billion initial reserves - $160 billion required reserves = $40 billion excess reserves). Therefore, the correct answer is D.

Assume That the Banking System Has $200 Billion in Reserves