Answer to Question #7628 in Macroeconomics for Melissa
Suppose there is $400 billion of cash (currency and coins) in existence. Banks hold 10% of it in their vaults. In addition, banks hold an identical amount in the (non-cash) form of reserve deposits with the Fed.
a) How large are the total reserves of banks? [hint: remember that reserves can take only two forms: vault cash and/or reserve deposits.]
b) Given your answer to (a), and assuming that the total reserves of banks exactly satisfy the Fed’s 10% reserve requirement, how large are the total deposit liabilities of banks (the deposits against which reserves must be held)? [hint: remember, total reserves here are 10% of total deposits. Even bigger hint: the answer is not $8 billion, nor is it $4 billion.]
c) Given your answer to (b), how large is the (M1) money supply? [hint: recall the definition of M1 money, and the fact that it has two major components; you can ignore travelers checks in this problem.]