Assume that the reserve requirement is 25 percent. If the Federal Reserve buys $2,500 worth of bonds, the largest possible increase in the money supply is $ . If someone deposits in a bank $2,500 that she had been hiding in her cookie jar, the largest possible increase in the money supply is $ . True or False: All other things equal, the money supply will expand more if someone deposits in a bank $2,500 that she had been hiding in her cookie jar than if the Federal Reserve buys $2,500 worth of bonds. True False

$10,000

$7500

False

Explanation:

Reserve requirement is the portion of deposit received by banks that the central bank requires to be kept as deposit.

Increase in money supply is a function of the reserve requirement

Increase in Money supply = amount deposited / reserve requirement

A. $2500 / 0.25 = $10,000

B, Increase in money supply = Increase in money supply - amount deposited

$10,000 - $2500 = $7500

C. The statement is false because the purchase of bonds would increase money supply more.

When the Federal reserve buys bonds this is known as an expansionary monetary policy.

Expansionary monetary policy : these are polices taken in order to increase money supply. When money supply increases, aggregate demand increases. Reducing interest rate and open market purchase are ways of carrying out expansionary monetary policy

When the Federal reserve buys bonds, the purchase is carried out using newly minted currency while the cookie jar money is money already in circulation.