Macroeconomics
● Maximum change in money supply = change in MB × MM For instance, if rr = 20%, MM would be 1/0.2 = 5. Hence, a change in MB (new money) by $100 will increase money supply by a maximum of $100 × 5 = $500. ● Maximum increase in loans = (deposit − reserves) × MM This represents the maximum amount of new loans that can be given out following a deposit. For instance, if the multiplier is 5, banks are fully loaned out, and all money is deposited into banks, and individual A from the previous example deposits $1,000, then the maximum increase in loans resulting from this deposit = ($1,000 − $100) × 5 = $4,500. Limitations to the Simple Money Multiplier Inreality,themoneymultiplierismorecomplicatedthanwhatwe’veseen.Recallthatthesimplemoney multiplier under the fractional-reserve banking system assumes the following: ● Banks do not keep excess reserves. ● Customers deposit all of the money they receive in banks. Thisisnotthecaseinreallifebecausepeoplespendmoneyandmightkeepthemathome,andbanks do keep excess reserves. Now suppose instead that we know the actual change in the money supply from a change in the monetary base. With this, we can fnd the actualmoneymultiplier(AMM) ratherthanthetheoretical maximum change. AMM = ( ) ( ) For instance,ifM1is$200million,andthereis$60millionincirculationand$20millioninreservesat banks, then the actual money multiplier is: =2.5. $200 $60 +$20 In summary, the amountpredictedbythesimplemoneymultipliermaybeoverstatedbecauseitdoes not take into account a bank’s desire to hold excess reserves or the public holding more currency. Therefore, the realistic money multiplier is the actual money multiplier (AMM). F. Money Demand What factors influence an individual's decision to hold onto money (e.g., in the form of cash or easily-accessiblecheckingaccounts)versusinvestingitininterest-bearingaccountsorassetsthatmay be less accessible for immediate use, such as bonds? This decision, like any other one, involves an opportunitycost.Thevalueofthebestalternativeforegonewhenachoiceismadebetweenthesetwo options is what determines the demand for money . AMM =
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