If the money multiplier is 2 and the Fed buys $50,000 worth of bonds, what happens to the money supply?

Question

Quizplus · Accepted Answer

The money multiplier is the inverse of the required reserve ratio. If the money multiplier is 2, then the required reserve ratio is 1/2 or 50%. When the Fed buys $50,000 worth of bonds, banks will have an extra $50,000 in reserves available to lend out. Using the money multiplier formula, we can calculate that the potential increase in the money supply is $50,000 x 2 = $100,000. Therefore, the money supply increases by $100,000.

If the Money Multiplier Is 2 and the Fed Buys