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Assume that the banks do not hold any excess reserves and the reserve ratio is 20%. If Sarah deposits $5,000 in cash in her checking account, the money supply can potentially increase by:
1.) $25,000
2.) $5,000
3.) $1,000
4.) $20,000

Respuesta :

Answer:

The correct answer is option 4.

Explanation:

The banks do not hold any excess reserves.

The required reserve ratio is 20%.

Sarah deposits $5,000 in cash in her checking account.

The banks reserves will increase by

= $5,000 - 20% of $5,000

= $5,000 - $1,000

= $4,000

This will cause the money supply to increase by

= [tex]\frac{1}{RR}\times Change\ in\ reserves[/tex]

= [tex]\frac{1}{0.2}\times \$ 4,000[/tex]

= $20,000

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