Answer:
1) If the Fed sells $2 million of government bonds, the economy’s reserves Decrease by $2 million, and the money supply will Decrease by $16 million.
2) The money multiplier will remain unchanged. True
3) As a result, the overall change in the money supply will remain unchanged. True
Explanation:
1.) We have the reserve requirement for checking deposits as 12.5% with banks not holding any excess reserves.
To calculate Money Multiplier:
Money Multiplier = [tex]\frac{1}{required reserved ratio}[/tex] = [tex]\frac{1}{0.125}[/tex] = 8
If the Fed sells $2 million of bonds, reserves will decrease by $2 million and the money supply will decrease by 8 x $2 million = $16 million.
2) and 3) Now the Fed lowers the reserve requirement to 10 percent, but banks choose to hold another 2.5 percent of deposits as excess reserves.
To calculate Money Multiplier:
Money Multiplier = [tex]\frac{1}{required reserved ratio}[/tex] = [tex]\frac{1}{0.1+0.025}[/tex] = 8
Money multiplier is 8 same as in 1) Therefore the statements: "The money multiplier will remain unchanged" and "As a result, the overall change in the money supply will remain unchanged" are both True.
