BR16B: Bridge: Money Creation
Question 1
Gus takes his \$15 in lemonade stand earnings and deposits it into his savings account. Meanwhile, Gus’s dad borrows \$20,000 to buy a new family car. Gus’s \$15 represents a(n) ____ for the bank, while his dad’s \$20,000 loan represents a(n) ____ for the bank.
A. liability; liability
B. asset; asset
C. liability; asset
D. asset; liability
Hint
An asset is something of value the bank owns. A liability is a debt that is owed to someone.Answer
C. liability; asset A deposit in a bank is an asset to the person depositing the money. However, when the bank puts that deposit on its books, it represents a liability because it owes that money back to the depositor when that depositor asks for it. For a bank, a loan is an asset since it requires the person borrowing the money to pay back the loan and also interest.Question 2
Which of the following situations would be considered a money leakage?
A. a college student who never carries any cash
B. a business that refuses to accept cash and handles all transactions using credit cards
C. a senior citizen who keeps her retirement savings in a shoebox underneath her bed
D. a bank holding only the minimum required reserves
Hint
A leakage is the departure of money from the lending cycle because of an action taken by a bank, an individual, a business, or a foreign entity.Answer
C. a senior citizen who keeps her retirement savings in a shoebox underneath her bed By storing money in a shoe box, the individual holds money outside the lending cycle. It is thus unavailable for profitable uses, such as investment.Question 3
Which of the following will result in the largest amount of money creation?
A. using a \$1,000 bond that matures to buy another \$1,000 bond.
B. depositing \$1,000 in cash into a checking account
C. transferring \$1,000 from a checking account into a savings account
D. converting \$1,000 in coins into \$1,000 in bills
Hint
Money is created when the banking system creates checkable deposits by lending excess reserves.Answer
B. depositing \$1,000 in cash into a checking account When money is deposited in a checking account, the bank can lend out the portion of the deposit that represents excess reserves. As a result, through the money multiplier process, an amount of money is generated that is greater than the initial deposit. Thus, a deposit of \$1,000 in a checking account leads to the creation of new money in excess of the \$1,000 deposited. None of the other items involve the creation of money.Question 4
If the reserve requirement is currently 20%, what is the maximum amount of money that could be generated from a \$2,000 bank deposit?
A. \$4,000
B. \$10,000
C. \$2,000
D. \$1,600
Hint
The money multiplier is 1 divided by the reserve requirement.Answer
B. \$10,000 The maximum amount of money generated is $\$2{,}000 \times 5 = \$10{,}000$Question 5
Suppose Will gives his wallet containing \$100 to Alex to hold while he works out. During Will’s workout, Alex uses the \$100 to pay his mechanic who fixed his scooter. The mechanic then took this \$100 to his vet to pay off his account for rescuing his pet bird. The vet then used the \$100 to pay Alex for money she owed him for tutoring her in economics. After Will’s workout, Alex returns the wallet with the same \$100 bill inside. Although the same \$100 bill was used without Will’s knowledge, everybody’s debt has been settled. How much money was created?
A. \$300
B. \$0
C. \$200
D. \$100