Answer:
b. decreases the money multiplier and decreases the money supply.
Explanation:
Commercial banks keep to some minimum amounts in the bank as per the central bank's requirements. This money cannot be loaned out to customers. This amount of money is known as bank reserve; it caters for large and unexpected customer withdrawals. Reserves must stay in the bank's volt or with the central bank. Excess reserves are the additional money banks hold over and above the required minimum.
After the 2008 financial crises, the Fed started paying interest on the bank's reserves. At recession, the interest rate tends to fall. Banks would prefer to hold excess reserves and earn a small but guaranteed income from the Fed. During recessions, lending to the public becomes more risk to the banks; hence, they opt to earn interests from the excess reserves.
When banks are lending less than required, they are decreasing the money multiplier and money supply. For example, if a bank is required to keep a reserve of 10 percent, it should loan out 90 per cent, meaning it has increased the money supply in the market as expected. But should the bank hold excess reserves say 20 per cent, then it can only loan out 80 per cent which reduces the rate multiplier effect and money supply.
