If a bank uses $80 of excess reserves to make a new loan when the reserve ratio is 25 percent, what happens to the money supply?
A)The money supply initially decreases by $80.
B)The money supply initially increases by $20.
C)The money supply will eventually increase by more than $20 but less than $80.
D)The money supply will eventually increase by $320.

Question

Quizplus · Accepted Answer

When a bank makes a loan of $80 with a reserve ratio of 25%, it can lend out 75% of deposits. The money multiplier is 1/reserve ratio, which is 4. Thus, the money supply will eventually increase by $80 * 4 = $320.

If a Bank Uses $80 of Excess Reserves to Make