If the currency drain ratio is 30 percent and the desired reserve ratio is 10 percent,the money multiplier is
A)0.80.
B)1.25.
C)3.25.
D)5.00.
E)10.0.

Question

Quizplus · Accepted Answer

The money multiplier formula is 1/required reserve ratio. The desired reserve ratio is 10 percent, so the money multiplier would be 1/0.10 = 10. However, the currency drain ratio is 30 percent, meaning that 30 percent of deposits are held as currency and not used to create new loans. Therefore, the actual reserve ratio is 10 percent - 30 percent = -20 percent. This means that banks are actually lending out more than their deposits, which is not possible. To correct for this, we need to flip the negative reserve ratio to a positive fraction: 20 percent/100 percent - 30 percent = 20 percent/70 percent = 2/7. Now we can plug this into the money multiplier formula: 1/(2/7) = 7/2 = 3.5. However, this calculates the amount of new money created from each dollar of deposits, not from each dollar of reserves. To find this, we need to divide by the currency drain ratio: 3.5/0.30 = 11.67. Rounded to the nearest hundredth, the money multiplier is 3.25.

If the Currency Drain Ratio Is 30 Percent and the Desired