(a) Reserve requirement for banks is set at 5%. Your firm withdraws $42,000 on its line of credit at the Security Bank to purchase equipment for expansion. The equipment vendor deposits the amount that he receives from you at his bank, The Highland Bank.
By how much has each bank’s excess reserves changed as a result of your withdrawal and expenditure?
What is the maximum amount of new money that can be created in the banking system as a result of your purchase? Show all work.
(b) Suppose that the Security Bank discovers its reserves will temporarily fall slightly short of those legally required. How might it remedy this situation through the Federal Funds market?
Explain how the Fed manipulates the Federal Funds Rate in order to achieve macroeconomic objectives.