Lecture 9 Multiple Deposit Creation and The Money Supply Process

MONEY AND BANKING
Ms. Riffat Mughal
Copyright © 2007 and 2013 Pearson

Addison-Wesley. All rights reserved.
MULTIPLE DEPOSIT
CREATION AND THE
MONEY SUPPLY PROCESS
Lecture # 9
Learning Outcome
After studying this chapter you should be able to
• LO1. List and describe the “players” that influence the money
supply
• LO2. Classify the factors affecting the Federal Reserve’s assets and
liabilities
• LO3. Identify the factors that affect the monetary base and
discuss their effects on the Federal Reserve’s balance sheet
• LO4. Explain and illustrate the deposit creation process through T-
accounts.
• LO5. List the factors that affect the money supply.
• LO6. Summarize how the “players” can influence the money supply.
• LO7. Calculate and interpret changes in the money multiplier
Money Supply Process
• It is important to understand how the money supply is
determined because movements in the money supply affect
interest rates and the overall health of the economy.
• How the money supply is determined?
• Who controls it?
• What causes it to change?
• How might control of it be improved?
Players in the Money Supply Process
1. Central bank - the government agency that oversees the banking
system and is responsible for the conduct of monetary policy such
as Federal Reserve System, State Bank of Pakistan, Bank of England,
Bank of Canada, Bank of Japan, Reserve Bank of India, Bangladesh
Bank, Central Bank of Sri Lanka, People's Bank of China and others.
2. Banks (depository institutions) - the financial intermediaries that
accept deposits from individuals and institutions and make loans:
commercial banks, savings and loan associations, mutual savings
banks, and credit unions
3. Depositors - individuals and institutions that hold deposits in banks
4. Borrowers - individuals and institutions that borrow from
depository institutions
Fed’s Balance Sheet
Federal Reserve System
Assets Liabilities
Government securities Currency in circulation
Discount loans (Loans to Reserves
financial institutions)
• Monetary Liabilities
• Currency in circulation—in the hands of the public
• Reserves—bank deposits at the Fed and vault cash
• Assets
• Government securities—holdings by the Fed that affect money supply
and earn interest
• Discount loans—provide reserves to banks and earn the discount rate
Liabilities
• The two liabilities on the balance sheet, currency in circulation and
reserves, are often referred to as the monetary liabilities of the Fed.
• They are an important part of the money supply, because increases in
either or both will lead to an increase in the money supply
(everything else held constant).
• The sum of the Fed’s monetary liabilities (currency in circulation and
reserves) and the U.S. Treasury’s monetary liabilities (Treasury
currency in circulation, primarily coins) is called the Monetary Base
(also called High-powered Money).
• When discussing the monetary base, we will focus only on the
monetary liabilities of the Fed, because those of the Treasury account
for less than 10% of the base.
Liabilities
1. Currency in circulation
• The Fed issues currency.
• Currency in circulation is the amount of currency in the hands of the public.
• Currency held by depository institutions is also a liability of the Fed, but is
counted as part of the reserves.
• Federal Reserve notes are IOUs from the Fed to the bearer and are also
liabilities, but unlike most liabilities, they promise to pay back the bearer
solely with Federal Reserve notes; that is, they pay off IOUs with other
IOUs.
• Accordingly, if you bring a $100 bill to the Federal Reserve and demand
payment, you will receive two $50s, five $20s, ten $10s, one hundred $1
bills, or some other combination of bills that adds to $100.
Liabilities
2. Reserves
• All banks have an account at the Fed in which they hold deposits.
• Reserves consist of deposits at the Fed plus currency that is physically
held by banks (called vault cash because it is stored in bank vaults).
• Reserves are assets for the banks but liabilities for the Fed, because
the banks can demand payment on them at any time and the Fed is
required to satisfy its obligation by paying Federal Reserve notes.
• As you will see, an increase in reserves leads to an increase in the
level of deposits and hence in the money supply.
• Total Reserves = Required Reserves + Excess Reserves
Monetary Base
High-powered money
MB = C + R
C = currency in circulation
R = total reserves in the banking system
Open Market Purchase from a Bank
Banking System Federal Reserve System

Assets Liabilities Assets Liabilities
Securities -$100 Securities +$100 Reserves +$100
Reserves +$100
• Net result is that reserves have increased by $100

• No change in currency
• Monetary base has risen by $100
Copyright © 2007 Pearson Addison-Wesley. All rights reserved. 16-11

Open Market Purchase from Nonbank Public I

Reserves +$100 Checkable +$100 Securities +$100 Reserves +$100
deposits
Nonbank Public
Assets Liabilities
Securities -$100
Checkable +$100
deposits
• Person selling bonds to the Fed deposits the Fed’s check in the bank
• IdenticalCopyright
result ©as2007
thePearson
purchase from a bank
Addison-Wesley. All rights reserved. 16-12
Open Market Purchase from Nonbank Public II
Nonbank Public Federal Reserve System

Securities -$100 Securities +$100 Currency in +$100
circulation
Currency +$100
• The person selling the bonds cashes the Fed’s check

• Reserves are unchanged
• Currency in circulation increases by the amount of the open market purchase
• Monetary base increases by the amount of the open market purchase
16-13
Open Market Purchase: Summary
• The effect of an open market purchase on reserves depends on
whether the seller of the bonds keeps the proceeds from the
sale in currency or in deposits
• The effect of an open market purchase on the monetary base
always increases the base by the amount of the purchase
Open Market Sale
Nonbank Public Federal Reserve System
Securities +$100 Securities -$100 Currency in -$100
circulation
Currency -$100
• Reduces the monetary base by the amount of the sale

• Reserves remain unchanged
• The effect of open market operations on the monetary base
is much more certain than the effect on reserves

Shifts from Deposits into Currency
Nonbank Public Banking System
Checkable -$100 Reserves -$100 Checkable -$100
deposits deposits
Currency +$100
Net effect
Federal Reserve System
on monetary liabilities
Assets Liabilities
is zero
Currency in +$100
circulation
Reserves are changed
Reserves -$100 by random fluctuations
Monetary base
is a more stable variable

Making a Discount Loan to a Bank
Reserves +$100 Discount +$100 Discount +$100 Reserves +$100
loans loan
(borrowing from Fed) (borrowing from
Fed)
• Monetary liabilities of the Fed have increased by

$100
• Monetary base also increases by this amount

Paying Off a Discount Loan from the Fed

Reserves -$100 Discount -$100 Discount -$100 Reserves -$100
loans loans
(borrowing from Fed) (borrowing from
Fed)
• Net effect on monetary base is a reduction

• Monetary base changes one-for-one with a change in the
borrowings from the Federal Reserve System

Other Factors Affecting the Monetary Base
• Float
• Treasury deposits at the Federal Reserve
• Interventions in the foreign exchange market
Deposit Creation: Single Bank
First National Bank First National Bank
Securities -$100 Securities -$100 Checkable +$100
deposits
Reserves +$100 Reserves +$100
Loans +$100
First National Bank

Excess reserves increase
Bank loans out the excess reserves
Assets Liabilities
Securities -$100
Creates a checking account
Loans +$100
Borrower makes purchases
The money supply has increased

Deposit Creation: The Banking System
Bank A Bank A
Reserves +$100 Checkable +$100 Reserves +$10 Checkable +$100
deposits deposits
Loans +$90
Bank B Bank B
Reserves +$90 Checkable +$90 Reserves +$9 Checkable +$90
deposits deposits
Loans +$81

The Formula for Multiple Deposit Creation
Assuming banks do not hold excess reserves
Required Reserves (RR) = Total Reserves (R)
RR = Required Reserve Ratio (r ) times the total amount
of checkable deposits (D)
Substituting
r  D=R
Dividing both sides by r
1
D= R
r
Taking the change in both sides yields
1
D =  R
r
Critique of the Simple Model
• Holding cash stops the process
• Banks may not use all of their excess reserves to buy securities
or make loans
Bank Reserves, the Monetary Base, and the Money
Multiplier
• The money multiplier is the amount by which a change in the
monetary base is multiplied to calculate the final change in the
money supply.
• An increase in currency held outside the banks is called a

currency drain.
• Such a drain reduces the amount of banks’ reserves, thereby

decreasing the amount that banks can loan and reducing the
money multiplier.
Controlling the Quantity of Money
• The money multiplier differs from the deposit multiplier.
• The deposit multiplier shows how much a change in

reserves affects deposits.
• The money multiplier shows how much a change in the

monetary base affects the money supply.
Deposit Creation: Banking System
Fleet Bank
Assets Liabilities
Reserves + $100 Deposits + $100
Fleet Bank
Assets Liabilities
Loans + $90
Bank One
Assets Liabilities
Bank One
Assets Liabilities
Reserves + $ 9 Deposits + $90
Loans + $81
Deposit Creation
Creation of Deposits (assuming 10% Reserve Requirement and $100
increase in reserves)
Increase in Increase Increase in
Bank Deposits in Loans Reserves
Manhattan Commercial 0.00 100.00 0.00
Fleet Bank 100.00 90.00 10.00
Bank One 90.00 81.00 9.00
Bank A 81.00 72.90 8.10
Bank B 72.90 65.61 7.29
Bank C 65.61 59.05 6.56
Bank D 59.05 53.14 5.91
. . . .
. . . .
. . . .
Total For All Banks 1000.00 1000.00 100.00
Deposit Creation
If Fleet Bank buys securities with $90 check
Fleet Bank
Assets Liabilities
Securities + $90
Seller deposits $90 at Bank One and process is same
Whether bank makes loans or buys securities, get
same deposit expansion
This system will end when all the banks are fully
loaned up so that the excess reserves are zero
Deposit Multiplier
Simple Deposit Multiplier
1
D   R
r
Where ΔD = change in deposits, r = reserves rate and ΔR = change in
reserves
The simple deposit multiplier 1/r which is the multiple by which
deposits increase in the bank in response to any increase in the
reserves. It is a reverse of the required reserve ratio, , so increases in
the required reserve ratio will lower the deposit multiplier and vice
versa – if required reserves are 20 % then multiplier is 5. In an open
market sale, reserves will fall by the same amount. Since the banking
system receives an inflow of Rs. 100 all reserves will be required
reserves when deposits grow by enough that Rs. 100 is r% of the
deposits
Deposit Multiplier
Simple Deposit Multiplier
1
D   R
r
If the SBP conducted an open market purchase of RS. 1 million
and r was 20%, how does this affect deposits in banks?
ΔD = 1/0.2 x 1mn = 5 x 1mn = Rs. 5mn. Increase in deposits
A General Model of Money Creation
A general model of money creation
• In reality the public holds deposits as well as currency, so the total money
stock is the sum of currency (C) and deposits (D)
• M=C+D
• We now assume that the public decides to hold currency in proportion to
the deposits, so that people who want to hold more money would increase
their cash and deposit holdings proportionally. This is in contrast to the
previous slides where we assumed that people held money only in the
form of deposits. The desired deposit to currency ratio is indicated as: cd
and C = cd X D……………………..(i) (10% of D)
• We also allow that banks hold excess reserves in excess of the
required reserve ratio. Therefore, total reserves (R) = required
reserves (RR) + excess reserves (ER)
A General Model of Money Creation
A general model of money creation
• Required reserves equal the required reserve ratio (r) x deposits (D)
• RR = r X D……………………..(ii) (20% of deposits)
• Desired excess reserves are assumed to be proportional to the deposits,
so that the desired excess reserves are equal to the desired excess
reserve ratio (ed) times deposits:
• ER = ed X D……………………(iii) (5% of deposits)
• Together equations (i), (ii), and (iii) imply that the total bank reserves
are:
• R = RR + ER
• R = r X D + ed X D
• R = (r + ed) X D……………….(iv)
The Monetary Base
The Monetary Base
• Since the public holds currency, the SBP cannot lend funds
that will be earmarked as commercial bank reserves, instead
funds supplied by the banks get divided among 2 uses: as
commercial bank reserves and as currency in the hands of
the public
• Therefore, we can’t view all the funds of the SBP as reserves
since a portion winds up in currency held outside banks.
Therefore all SBP funds are referred to as the Monetary Base
(MB) which is denoted as
• MB = C + R………………………………….(v)
The Monetary Base
The Monetary Base
• MB = C + R………………………………….(v)
• An example will illustrate why it is convenient to use the monetary
base to analyze the SBP’s open market operations and how currency
holdings and excess reserves affect money creation
• Suppose the SBP’s OMO leaves the securities dealer holding a cheque
for Rs. 1 million which he deposits in his bank. If the securities dealer
did not wish to hold cash, this deposit would increase the bank’s
reserves by Rs. 1 million. Furthermore if the required reserve ratio (r)
is 20% and the bank holds no excess reserves, it can lend out Rs.
800,000 of new deposit. We can use the deposit multiplier to see
how this would create new money in the form of deposits
The Monetary Base
• MB = C + R………………………………….(v)
• Now suppose that the securities dealer wants to keep his
currency holdings equal to one quarter of his checkable
deposits (cd = 0.25 of 800,000), so that when he deposits the
one million cheque, he takes 200,000 out in currency. Due to
this withdrawal the bank has gained reserves (deposits) of Rs.
800,000, instead of the whole one million as in the previous
case. For this reason it is more convenient to think of OMO
purchase as increasing currency plus reserves (the monetary
base) then to figure out how much of the initial deposit is
converted into currency and how much into reserves.
The Monetary Base
• MB = C + R………………………………….(v)
• Out of this remaining Rs. 800,000, how much can be lent out? The
required reserve ratio of 20 percent implies that Rs. 160,000 will
be set aside as reserves and Rs. 640,000 can be lent. Further more
if it is the bank’s policy to keep 5% excess reserves, in case of
emergency that another 40,000 less will be available for lending –
this will happen in each subsequent round of deposits and lending
also and continue to diminish the amount the banks can loan
• This example suggests that a Rs. 1 million open market purchase
will increase bank loans and hence deposits at other banks, but by
less than would be the case in the absence of currency holdings
and excess reserves
Controlling the Quantity of Money
Figure 3 illustrates the multiplier effect of an open market
operation.
The Complete Deposit Multiplier
• We now derive the relationship between the monetary base and
the total banking system deposits – taking into account how
currency holdings and excess reserves drain the banking system of
reserves. Substituting equation (i), (iv) and (v), we get
• MB = C + R………………………………….(v)
• MB = cd X D + (r + ed) X D ……………….(vi)
• MB = (r + ed + cd) x D ……………..(vii)
• Therefore, the monetary base is the total banking system
deposits, multiplied by the sum of the deposit to currency
ratio, the required reserve ratio and the desired excess
reserves ratio
• Next you solve equation (vii) for D
• MB = (r + ed + cd) x D ……………..(vii)
• D = MB x [ 1/ r + ed + cd]…………….(viii)
• This shows that the total amount of banking system deposits
is actually a multiple of the monetary base
• For instance if the SBP has a monetary base of Rs. 350
billion, and required reserves at 20% of deposits. If the bank
holds 5% of deposits as excess reserves and the public holds
25% of deposits as currency, the total banking system
deposits are:
• D = MB x [ 1/ r + ed + cd]…………….(viii)
• D = 350,000,000,000 x [ 1 / 0.2 + 0.05 + 0.25] = Rs. 700 bn
• Here the total deposits are two times the monetary base
• ΔD = Δ MB x [ 1/ r + ed + cd]…………….(ix) is the Complete
Deposit Multiplier – also notice that when the public does
not hold any currency and there are no excess reserves
required, the complete Deposit Multiplier equation gets
simplified into the Simple Deposit Multiplier
The Complete Deposit Multiplier (CDM)
• ΔD = Δ MB x [ 1/ r + ed + cd]…………….(ix)
• We can use the above equation to calculate the effect of OMOs on deposits.
When the SBP purchased Rs. 1 mn. In bonds from the securities dealer
• Given the previous example ΔD =1000,000 x 2 = Rs. 2 mn.
• Notice that this amount is considerably less than it would have been
without the currency holdings and the excess reserves, without which it
would have been Rs. 5 mn.
• This difference is due to the fact that the banks now have less money to
lend out due to the currency holdings and excess reserves requirement.
Therefore, the CDM multiplier decreases with increase in excess reserves
and currency holdings and is less than the simple deposit multiplier
The Complete Currency Multiplier (CCM)
• When the public holds currency, an Open Market Purchase, leads not
only to an increase in deposits, but also to more currency in circulation
• Just how much currency is put in the hands of the public with a Rs. 1
mn open market purchase?
• We first derive the relationship between the monetary base and
currency holdings. To do this we solve the equation (i) & (ix)
• C = cd X D……………………..(i)
• D = MB x [ 1/ r + ed + cd] …………….(ix)
• C = cd X MB x [ 1/ r + ed + cd]
• C = MB x [cd / r + ed + cd] = 350 x [0.25 / 0.2 + 0.05 + 0.25]
• = Rs.175 bn…………………(x)
• In other worlds the SBP must maintain a monetary base of Rs. 350
bn. to keep Rs. 175 bn. In the hands of the public
The Complete Currency Multiplier (CCM)
• Just how much currency is put in the hands of the public with a Rs.
1 mn open market purchase?
• We first derive the relationship between the monetary base and
currency holdings. To do this we solve the equation
• C = MB x [cd / r + ed + cd] = 350 x [0.25 / 0.2 + 0.05 + 0.25]
• = Rs.175 bn.
• A change of Rs. 1 mn. Will change currency by half that amount in
this example, and currency change will be equal to
• ΔC = ΔMB x [cd / r + ed + cd] = Rs. 500,000
• It is important to know that the 500,000 increase in currency
holdings is in addition to the Rs. 2 mn. increase in deposits and is
an additional increase in the money stock
The Complete Money Multiplier (CMM)
• How is money stock (M) related to the monetary base?
• Since MS = Total currency in hands of public (C) + checkable deposits (D),
we can use the preceding equations to find the link
• M=C+D
• D = MB x [ 1/ r + ed + cd] …………….(ix)
• C = MB x [cd / r + ed + cd]…………..(x)
• M = MB x [1+ cd / r + ed + cd]…………..(xi)
• The above equation shows how the total stock of money is a multiple of
the monetary base
• M = 350 x [1+ 0.25 / 0.2 + 0.05 + 0.25] = 350 x 2.5 = Rs. 875 bn.
• Since it equals currency + deposits it is the same as the sum of C and D
calculated earlier = 175 + 700 = 875
• Same formula is true for change in M
The Complete Money Multiplier (CMM)
• What are the changes in deposits, currency holdings
and the money stock for an open market sale of Rs.
100,000. the required reserve ratio is 10%, the
desired excess reserve ratio is 5% and the desired
currency to deposit ratio is 25%
• ΔD = 2.5 x -100,000 = -250,000
• ΔC = 0.625 x -100,000 = -62,500
• ΔM = 3.125 x -100,000 = -312,500
Conclusion - Controlling the Monetary Base
Fed has a better ability to control monetary

base (MB) than reserves (R)!
It can control MB through open market
operations, whereas changes in the reserve
ratio might trigger a whole cycle of events
MB = C + R
Determinants of Money Supply
• Money supply is:
• M = MB x [1+ cd / r + ed + cd ]…………..(xi)
• This equation is called the money supply equation, because it indicates
how much money is created in the economy for a given monetary base
• The banking system and the public transform the monetary base into
specific amounts of currency holdings and deposits.
• This process of transformation is referred to as the money supply process
and the resulting amount of money as the amount of money supplied.
• Equation xi indicates the major determinants of money supply which are
(1) required reserve ratio, (2) the currency to deposit ratio, (3) the
desired excess reserve ratio, and (4) the monetary base
• A change in any is these will change the currency holdings and checkable
deposits available in the economy
SBP Determinants of Money Supply
• The SBP has 2 primary ways of influencing the money supply:
(1) through the monetary base and (2) through the reserve
requirement
• During periods of economic expansion the SBP sometimes
takes actions that reduce the money supply to counter
inflationary pressures
• In contrast the SBP often increases the money supply during
economic downturns in the hope of stimulating the economy
1. The Monetary Base
• The SBP can increase or decrease the monetary base by
engaging in open market purchases or sales. An increase or
decrease in the MB leads to an increase or decrease in the
money supply that is a multiple of the increase or decrease in
MB, thanks to the complete money multiplier
• Illustration: Calculate the money supply for 2 different levels of
MB. Suppose r = 0.2, ed = 0.05, cd = 0.25 and MB = 350 mn, then
Money supply = 2.5 x 350 = Rs. 875 mn.
• Now if the MB was lower = 300 mn and other parameters
remained the same, then M = 750 mn.
• This shows that the SBP can increase or decrease the money
supply by reducing or increasing MB
2. The Required Reserve Ratio
• By changing the required reserve ratio the SBP alters the money
multiplier thereby changing the amount of money generated
from a given monetary base
• If the required reserve ratio changes from 0.2 in the previous
example to 0.1, how does that alter the money multiplier and
eventually the money supply?
• As a practice, the SBP seldom uses this tool to influence money
supply as a small change in the reserve requirement leads to
large changes in the money multiplier. Therefore, even a small
mistake could drastically increase or reduce the money supply,
possibly creating a recession or inflation. For these reasons the
SBP primarily relies on open market operations
Banking System Determinants of Money Supply
• The banking system determines M, by choosing its ratio of
excess reserves to deposits
• Since higher excess reserves reduce the amount of loans the
banking system creates from a given monetary base, increases
in ed lead to reductions in money supply, and vice versa
• What factors might cause banks to lower or increase this ratio?
a) Market Interest Rates on Loans – influences the desired ratio
of excess reserves to deposits because these interest rates are
the opportunity costs of holding excess reserves, which earn
no interest. When a bank holds excess reserves, it forgoes the
interest it could have earned on this amount. Thus ed will
decline with increases in interest rates and vice versa
b) Risk of Deposit Withdrawals – banks hold excess reserves
mostly to help them deal with unexpected withdrawals.
Having excess reserves available allows a bank to avoid
calling in loans, selling securities or borrowing reserves from
the SBP or other banks. E.g. an earthquake in the Northern
Areas will cause to the banks to increase this ratio as they
expect people to withdraw more to build their houses and
repair damage to their property. The higher the risk of such
withdrawals the higher the ratio
c) Interest Rate on Borrowed Reserves – a bank facing a sudden
need for reserves can avoid calling in loans, at least for a
while, by borrowing reserves from other banks in the federal
funds market, or from the SBP through the discount window
• Banks view the ability to borrow reserves in times of need as
a substitute for holding excess reserves. When the federal
fund or discount window rate rises, this option becomes less
attractive and the excess reserve ratio increases. This tends to
reduce the money multiplier and consequently the money
supply
Public Determinants of Money Supply
• The public determines M, by choosing its ratio of currency
holdings to deposits. If people want to make more cash
transactions, then this ratio will increase. This will reduce the
complete money multiplier and lead to a reduction the
money supply. A decrease in cd has the opposite effect
• To see how cd affects M, suppose people now hold 0.5 of
currency to deposits, what happens to M?
• What factors lead to a change in the publics desire to hold
currency?
a) Interest rates on checkable deposits – which is the
opportunity cost of holding money – therefore, when interest
rate on deposits rises cd falls and vice versa
b) Fees on checkable deposits – money holders looking to choose
between currency and checkable deposits will also be influenced by
the fees charged on checking accounts, both monthly maintenance
charges and fees assessed per check or ATM withdrawal. These fees
are a cost of holding money in the form of deposits. When these
fees increase, the attractiveness of holding money in the form of
currency increases, which raises the currency to deposit ratio
c) Income – the currency deposit ratio declines with income – those
with more income tend to be more sophisticated users of the
financial system and rely more on the system than on currency.
Those with low incomes rely more on currency for transactions –
therefore, the higher the income of the economy, the lower the
currency to deposit ratio
d) The Probability of Bank Failure – when the probability of bank
failure rises, money holders tend to abandon deposits in favor
of currency, even though deposit insurance in the US makes
bank failures and the failures of other depository institutions
such as savings and loans much less costly than during earlier
times. However, even then, a banking panic would cause an
increase in the currency to deposit ratio
• Determine the impact of the following events on M
• The Fed lowers the required reserve ratio
• Increases complete money multiplier and therefore, M
• The interest rate paid on deposits rises
• an increase in the interest rate on deposits will decrease the
currency to deposit ratio and lead to an increase in the
complete money multiplier and therefore, M
• The Fed raises the discount rate
• An increase in the discount rate causes banks to increase their
excess reserve ratio as to borrow in emergencies will now be
more costly. This will reduce the multiplier and consequently
M
Factors that effect the M1 Multiplier
Factor Effect on M1 Multiplier Effect on M1 Money
Supply
c   
r  
e  
• If the public decides to hold more money relative to deposits, then there
will be less money available for multiple deposit creations. In turn, the
money multiplier falls.
• The same can be said about what happens if banks decide or have to
hold more reserves. There will be less funds available for multiple deposit
creation resulting in a decline in the money multiplier.
References
• Mishkin, F. S., and Serletis, A. (2007). The Economics Of Money, Banking and
Financial Markets. Pearson Canada Toronto.
• Mishkin, F. S., and Serletis, A. (2013). The Economics Of Money, Banking and
Financial Markets. Pearson Canada Toronto.

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MONEY AND BANKING

Ms. Riffat Mughal

Copyright © 2007 and 2013 Pearson

Banking System Federal Reserve System

• Net result is that reserves have increased by $100

Copyright © 2007 Pearson Addison-Wesley. All rights reserved. 16-11

Banking System Federal Reserve System

Nonbank Public Federal Reserve System

• The person selling the bonds cashes the Fed’s check

• Reduces the monetary base by the amount of the sale

Copyright © 2007 Pearson Addison-Wesley. All rights reserved. 16-15

Copyright © 2007 Pearson Addison-Wesley. All rights reserved. 16-16

• Monetary liabilities of the Fed have increased by

Copyright © 2007 Pearson Addison-Wesley. All rights reserved. 16-17

Banking System Federal Reserve System

• Net effect on monetary base is a reduction

Copyright © 2007 Pearson Addison-Wesley. All rights reserved. 16-18

First National Bank

Copyright © 2007 Pearson Addison-Wesley. All rights reserved. 16-20

Copyright © 2007 Pearson Addison-Wesley. All rights reserved. 16-21

• An increase in currency held outside the banks is called a

• Such a drain reduces the amount of banks’ reserves, thereby

• The deposit multiplier shows how much a change in

• The money multiplier shows how much a change in the

Fed has a better ability to control monetary

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