Activity

Explain and list the functions of reserve bank?

-regulates the issue of currency, and the supply availability and international exchange of
money.

-It promotes monetary policy formulation and implementation through open market operations
buying and selling of government securities.

-supervises the financial system to promote a sound financial structure.

-manages foreign reserves by regulating capital markets and securities industry.

-0policy coordination and dissemination of information that is fostering credit and exchange
conditions conducive to the orderly and balanced economic development of the country.

2. Explain ways in which the central bank can alter excess reserves?

Central bank can alter excess reserves by

a .Reserve requirement-influences the reserve ratio that banks and other depository institutions
must hold against deposits. Central banks can either lower or raise the reserve ratio
requirement.RR impacts the credit creation process as when RR  excess reserves loans  and
vice versa

b . Discount rate – Central bank can also alter excess reserves of the banks and other depository
institutions through discount mechanism by which the Central bank lends reserves temporarily
to banks. Central bank charges an interest rate called discount rate on such loans. Banks faced
with reserve deficits can temporarily borrow reserves from the central bank at a discount rate.

c. Open market operations-most important way the central bank alters the amount or reserves
the banks hold by buying and selling government securities known as OMO.Absorbs money
from the system by selling and releases money into the system by buying back from those
securities.

3. What are the effects of lowering the required reserve ratio of demand deposits?

Lowering the required ratio increases the demand deposit expansion multiplier for the entire
banking system. More excess reserves enable banks to make loans buy more securities and
expand demand deposit.

-Instantly and automatically increases banks reserves since fewer reserves are now required
against any given volume of demand deposits.

4. What are the effects of raising the required reserve ratio of demand deposits?
-reduces excess reserves, lowers the potential for multiple expansion

-putting banks into a deficit reserve position would force them to call in loans and sell securities

-smaller excess reserves would lead to restrain lending and deposit creation.

5. What are the methods that the central bank uses to preventing abuse of the discount facility?

Central bank charges interest rate called discount rate on such loans thus tries to influence the
willingness of banks to borrow reserves by charging interest rates on loans, increasing the
discount rate and reserve banks also tries to monitor and supervise.

6. Does lowering of discount ratio increases excess reserves and why?

It implies that most commercial banks have money so they will not borrow and there is no link
between excess reserves and discount rate. A decrease in reserve ratio will increase the excess
reserves and vice versa.

7. Balance sheet of Commercial bank

$m $m
Cash 2 demand deposit 3
Building 1 Net equity 10
Govt bonds 5
Deposit in field 2
Loans 3
$ 13m $ 13m

Cash 3m

Demand deposits 3m

Loans 3m

Cash 3m

8. 20% x 3,000,000= 600,000 amount of reserves 600000/1000000

Excess reserves = $ 5m-0.6

= $4.4 m

9. Commercial bank loan extension (Bank 1)

$m $m
Deposits in Fed bank +$4,800,000 Demand deposits +$4,800,000

Bank 2

$m $m
Deposits in Fed bank -$4,800,000 Demand deposits -$4,800,000

10. Suppose excess reserves were $4.8m, required reserve ratio was 9%.Find the increase in demand
deposit using the deposit multiplier?

Increase in demand deposit = 1/RR00 X ER

9%=0.09 =1/0.09 x0 4.8 m

= 11.111 x 4.8 m

= $53.333m

11. Explain the following

Deposit multiplier – is the multiple increase in deposits generated from an increase in the banking
system reserve.

Demand deposit expansion multiplier – refers to the number that when multiplied by the level of
excess reserves determines the maximum amount of demand deposits.

Excess reserve-Is the difference between total reserves and required reserves of a bank against
deposits.