When the Fed increases the interest rate paid on reserves, it:
A) increases the reserve-deposit ratio (rr).
B) decreases the reserve-deposit ratio (rr).
C) increases the monetary base (B).
D) decreases the monetary base (B).

Question

Quizplus · Accepted Answer

When the Fed increases the interest rate paid on reserves, it incentivizes banks to hold more excess reserves, which in turn increases the reserve-deposit ratio. An increase in the reserve-deposit ratio means that banks are holding a higher percentage of deposits in reserve and lending out less, thereby decreasing the money supply.

When the Fed Increases the Interest Rate Paid on Reserves