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Tut 4 Ps

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46 views2 pages

Tut 4 Ps

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Syed badshah
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We take content rights seriously. If you suspect this is your content, claim it here.
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Problem Set III 13.03.

2018

1. What are the three functions of money? Which of the functions do the following
items satisfy? Which do they not satisfy?

a. A credit card
b. A painting by Rembrandt
c. A subway token

2 Explain how each of the following events affects the monetary base, the money
multiplier, and the money supply.

a.The Federal Reserve buys bonds in an open- market operation.


b.The Fed increases the interest rate it pays banks for holding reserves.
c.The Fed reduces its lending to banks through its Term Auction Facility.
d.Rumors about a computer virus attack on ATM machines increase the amount of
money people hold as currency rather than demand deposits.

e.The Fed ies a helicopter over 5th Avenue in NewYork City and drops newly
printed $100 bills.

3. An economy has a monetary base of 1,000 $1 bills. Calculate the money supply in
scenarios (a)–(d) and then answer part (e).

a.All money is held as currency.


b.All money is held as demand deposits. Banks hold 100 percent of deposits as
reserves.
c.All money is held as demand deposits. Banks hold 20 percent of deposits as
reserves.
d.People hold equal amounts of currency and demand deposits. Banks hold 20
percent of deposits as reserves.
e. The central bank decides to increase the money supply by 10 percent. In each of
the above four scenarios, how much should it increase the monetary base?

4. In the nation of Wiknam, people hold $1,000 of currency and $4,000 of demand
deposits in the only bank, Wikbank. The reserve–deposit ratio is 0.25.

a. What are the money supply, the monetary base, and the money multiplier?
b. Assume that Wikbank is a simple bank: it takes in deposits, makes loans, and
has no capital. Show Wikbank’s balance sheet. What value of loans does the bank
have outstanding?
c. Wiknam’s central bank wants to increase the money supply by 10 percent.
Should it buy or sell government bonds in open-market opera- tions? Assuming no
change in the money multiplier, calculate, in dollars, how much central bank needs
to transact.

5. In the economy of Panicia, the monetary base is $1,000. People hold a third of their
money in the form of currency (and thus two-thirds as bank deposits). Banks hold a
third of their deposits in reserve.

a. What are the reserve–deposit ratio, the currency–deposit ratio, the money
multiplier, and the money supply?
b. One day, fear about the banking system strikes the population, and people now
want to hold half their money in the form of currency. If the central bank does
nothing, what is the new money supply?
c. If, in the face of this panic, the central bank wants to conduct an open-market
operation to keep the money supply at its original level, does it buy or sell
government bonds? Calculate, in dollars, how much the central bank needs to
transact.
1
Problem Set III 13.03.2018

6. To increase tax revenue, the U.S. government in 1932 imposed a 2-cent tax on
checks written on bank account deposits. (In today’s dollars, this tax would amount
to about 34 cents per check.)

a.How do you think the check tax affected the currency–deposit ratio? Explain.
b.Use the model of the money supply under fractional-reserve banking to discuss
how this tax affected the money supply.
c. Many economists believe that a falling money supply was in part responsible for
the severity of the Great Depression of the 1930s. From this perspective, was the
check tax a good policy to implement in the middle of the Great Depression?

7. Give an example of a bank balance sheet with a leverage ratio of 20. If the value of
the bank’s assets rises by 2 percent, what happens to the value of the owners’
equity in this bank? How large a decline in the value of bank assets would it take to
reduce this bank’s capital to zero?

8. Jimmy Paul Miller starts his own bank, called JPM. As owner, Jimmy puts in $2,000
of his own money. JPM then borrows $4,000 in a long-term loan from Jimmy’s
uncle, accepts $14,000 in demand deposits from his neighbors, buys $7,000 of
U.S.Treasury bonds, lends $10,000 to local businesses to nance new investments,
and keeps the remainder of the bank’s assets as reserves at the Fed.

a. Show JPM’s balance sheet.What is JPM’s leverage ratio?


b. An economic downturn causes 5 percent of the local businesses to declare
bankruptcy and default on their loans. Show JPM’s new bal- ance sheet. By what
percentage does the value of JPM’s assets fall? By what percentage does
JPM’s capital fall?

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