Chapter 14 NotesFederal Reserve Balance SheetLiabilities Currency in Circulation – currency held in the hands of the public (individuals and businesses)Reserves – vault cash plus deposits at the Federal ReserveAssetsSecurities – Fed ownership of Treasury securities and other types of securities that earn interest. This is the primary source of income for the Federal ReserveLoans to financial institutions – another source of interest income for the Federal ReserveMonetary base (high-powered money) – currency incirculation plus the total reserves in the banking system.MB = C + RThe primary method the Fed uses to change the monetary base is through open market operations. An open market purchase occurs when the Federal Reserve buys bonds on the open market (from dealers or banks). An open market sale occurs when the Federal Reserve sells bonds on the open market (to dealers or banks).Open Market Purchase from a BankWork through T-accounts here.Open Market Purchase from the Nonbank Public (dealer)Work through T-accounts here.Open Market SaleWork through T-account here.Shift from Deposits into CurrencyWork through T-accounts here.Loans to Financial InstitutionsWork through T-accounts here.Other factors that impact the monetary base- Float- Treasury deposits at the FedMultiple Deposit CreationWork through T-accounts here.See table page 337.Remember! Each bank can lend out no more than the amount of excess reserves that bank holds. The banking system as a whole will be able to see anexpansion of deposits.Simple deposit multiplier – reciprocal of the required reserve ratio. Can be used to determine the maximum deposit expansion when reserves are injected into the banking system.∆D = 1/rr x ∆RWhere∆D = the maximum change in the checkable depositsrr = the required reserve ratio (in decimal format)∆R = the initial change in reservesCriticisms of the simple deposit model- Sometimes individuals and businesses choose tohold currency rather than putting the funds intothe banking system- Sometimes banks choose to hold excess reserves rather than lending out all that they possibly couldFactors that Determine the Money SupplyMBn – nonborrowed monetary baseOpen Market Operations by the Federal Reserve; positive relationshipBR – borrowed reservesBanks borrow funds from the Federal Reserve; positive relationshiprr – required reserve ratioThe minimum amount of checkable deposits that banks must keep in reserve. Set by the Federal Reserve; negative relationshipc – currency holdingsThe choice of depositors to hold cash vs. bank deposits; negative relationshipe – holdings of excess reservesThe choice of banks to retain excess reserves rather than lend them out; negative relationshipThe money multiplier shows how the money supply changes in response to a change in the monetary base.m = (1 + c)/(rr + e + c)M = m x MB whereM = the M1 measure of the money supplym = the money multiplierMB = the monetary baseMB = MBn +
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