Below is the T-account for Country One Bank, the only bank in a small island nation. In addition to the dema?Below is the T-account for Country One Bank, the only bank in a small island nation. In addition to the demand deposits of $100,000, citizens hold $20,000 in coins and currency. Assume that demand deposits and currency are the only forms of money. Citizens also hold $40,000 of government bonds. These are not... |
"A" is right one - since money multiplier = 1/10%=1/0.10=10 so after open-market operation money in circulation will be reduced by -20'000 and consequently money supply will be reduced by 20'000*10=$ -200'000. The only problem is - this economy doesn't have such money supply, so it seems like by purchasing bonds they will not be able to pay for it, so it will be added to liabilities and bonds will be added to assets (as M3 money).
More realistic picture for this economy would be:
Reserve requirement=10%
Cash in economy =$10'000+$20'000= $30'000
Currency drain=20% (20'000 hold citizens)
Money supply=30'000/(10%+20%)= 30'000/0.3=100'000
Money multiplier=1/0.3= 10/3=3.3(3)
So reduction of 20'000 would cause 20'000/0.3= $-66'666.6(6) fall in money supply.
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