The Economics of Money, Banking, and Financial Markets

Frederic S. Mishkin

ISBN #9781292094182

11th Edition

614 Questions

42,466 Students Helped

Homework Questions

Summary

Learning Objectives

Key Concepts

Example Problems

Explanations

Common Mistakes

Summary

This chapter explains the money supply process by emphasizing the roles of the three key players: the Federal Reserve, banks, and depositors. It details how the Fed uses open market operations and discount lending to control its balance sheet components, which include reserves and currency in circulation. The process of multiple deposit creation, illustrated using T-accounts, shows how an initial injection of reserves can lead to a multiplied increase in the money supply – a process quantified by the money multiplier. However, factors such as excess reserves, changes in the currency ratio, and deviations from ideal borrower and bank behavior can limit this expansion. Overall, a clear understanding of these mechanisms is essential for analyzing the effects of monetary policy on economic activity.

Learning Objectives

Key Concepts

CONCEPT

DEFINITION

Definition: The study of how equilibrium levels of output and inflation are determined by the interaction of aggregate demand (planned spending) and aggregate supply (the economy’s capacity).

The study of how equilibrium levels of output and inflation are determined by the interaction of aggregate demand (planned spending) and aggregate supply (the economy’s capacity). •

Example Problems

Example 1

Classify each of these transactions as an asset, a liability, or neither for each of the "players" in the money supply process - the Federal Reserve, banks, and depositors. a. You get a $\$ 10,000$ loan from the bank to buy an automobile. b. You deposit $\$ 400$ into your checking account at the local bank. c. The Fed provides an emergency loan to a bank for $\$ 1,000,000$ d. A bank borrows $\$ 500,000$ in overnight loans from another bank. e. You use your debit card to purchase a meal at a restaurant for $\$ 100$

Example 2

The First National Bank receives an extra $\$ 100$ of reserves but decides not to lend out any of these reserves. How much deposit creation takes place for the entire banking system?

Example 3

Suppose the Fed buys $\$ 1$ million of bonds from the First National Bank. If the First National Bank and all other banks use the resulting increase in reserves to purchase securities only and not to make loans, what will happen to checkable deposits?

Example 4

If a bank depositor withdraws $\$ 1,000$ of currency from an account, what happens to reserves, checkable deposits, and the monetary base?

Example 5

If a bank sells $\$ 10$ million of bonds to the Fed to pay back $\$ 10$ million on the loan it owes, what is the effect on the level of checkable deposits?