INTRODUCTION TO
MONEY AND BANKING
Tables and Graphs
Part 3
Table of Definitions
• TR = Total Reserves-Definition*
• RR = Required Reserves-Definition*
• ER = Excess Reserves-Definition*
• r = Minimum Reserve Ratio = RR/DD = ΔRR/ΔDD
• GS = Government Securities
• LL = Loans
• DD = Demand Deposits
• A = Assets
• L = Liabilities
• NW = A – L = Net Worth
Figure D-2.1: Bank A’s Balance Sheet
Bank A
A
TR = $1m
RR = $1m
ER = $0m
GS = $6m
LL = $4m
L
DD = $10m
NW = $1m
NOTE: (1) r = 10% and since ER = 0, Bank A is
fully loaned up.
(2) TR = RR + ER.
(3) A = L + NW and TR + GS + LL = DD + NW.
Figure D-2.2: The Banking System’s Balance
Sheet When r = 10%
Banking System
A
TR = $50m
RR = $50m
ER = $0m
GS = $120m
LL = $355m
L
DD = $500m
NW = $25m
NOTE: r = 10% and since ER = 0, the Banking
System is fully loaned up (ER = 0 for all banks
in the Banking System).
Figure D-2.3: The Fed’s Balance Sheet
Federal Reserve District Bank
A
L
GS = $140m
MBS =$500m
FRN = $80m
MBR = $550m
T = $10m
GS = Government Securities
FRN = Federal Reserve Notes
MBR = Member Bank Reserves
T = Treasury Checking Account
MBS = Mortgage Backed Securities
Figure D-2.4a: Purchase of $1M in GS from
Bank A: The Fed’s First Balance Sheet
1.
Federal Reserve District Bank
A
L
GS = $140m
MBS = $500m
FRN = $100m
MBR = $550m
T = $10m
Figure D-2.4b: Purchase of $1M in GS from
Bank A: The Fed’s Second Balance Sheet
2. Federal Reserve District Bank
A
L
GS = $141m
MBS = $500m
FRN = $100m
MBR = $551m
T = $10m
The Fed purchases $1m in GS from Bank A.
Figure D-2.5a: Bank A’s First Balance Sheet
1.
Bank A
A
TR = $1m
RR = $1m
ER = $0m
GS = $6m
LL = $4m
L
DD = $10m
NW = $1m
NOTE: r = 10% and since ER = 0, Bank A is
fully loaned up.
Figure D-2.5b: Bank A’s Second Balance Sheet
2.a. The Fed purchases $1m in GS from Bank A.
b. Money Creation Step: Bank A loans out $1m and creates
a DD of $1m.
c. Clearing Step: $1m is spent and deposited in Bank B.
Bank B gains $1m in TR and Bank A loses $1m in TR.
Bank A
2.
A
a.
TR = $2m
RR = $1m
ER = +$1m
GS = $5m
LL = $4m
b. ΔLL = +$1m
c. ΔTR = -$1m
L
DD = $10m
NW = $1m
ΔDD = +$1m
ΔDD = -$1m
Figure D-2.5c: Bank A’s Third Balance Sheet
3.
Bank A
A
TR = $1m
RR = $1m
ER = 0
GS = $5m
LL = $5m
L
DD = $10m
NW = $1m
NOTE: Bank A is fully loaned up and
its Balance Sheet balances.
Figure D-2.6a: Bank A’s First Balance Sheet
1.
Bank A
A
TR = $1m
RR = $1m
ER = $0m
GS = $6m
LL = $4m
L
DD = $10m
NW = $1m
NOTE: r = 10% and since ER = 0, Bank A is
fully loaned up.
Figure D-2.6b: Bank A’s Second Balance Sheet
2.a. The Fed purchases $1m in GS from Bank A.
b. Money Creation Step: Bank A loans out $1m and creates
a DD of $1m.
c. Clearing Step: $1m is spent and deposited in Bank B.
Bank B gains $1m in TR and Bank A loses $1m in TR.
Bank A
2.
A
L
a.
TR =
RR =
ER =
GS =
LL =
b. ΔLL =
c. ΔTR =
DD =
NW = $1m
ΔDD =
ΔDD =
Figure D-2.6c: Bank A’s Third Balance Sheet
3.
Bank A
A
TR =
RR =
ER =
GS =
LL =
L
DD =
NW =
NOTE: Bank A is fully loaned up and
its Balance Sheet balances.
Figure D-2.6d: Bank B’s First Balance Sheet
Bank B
A
TR = $1m
RR = $1m
ER = $0m
GS = $6m
LL = $4m
L
DD = $10m
NW = $1m
NOTE: r = 10% and since ER = 0, Bank B is
fully loaned up.
Figure D-2.6e: Bank B’s Second Balance Sheet
2.a. A check for $1m is deposited in Bank B and Bank B receives
$1m in TR from Bank A in the clearing step.
b. DD Creation: Bank B loans out $0.9m and creates DD of
$0.9m.
c. Clearing Step: $0.9m is spent and deposited in Bank C.
Bank C gains $0.9m in TR and Bank B loses $0.9m in TR.
2.
Bank B
A
L
a.
TR =
RR =
ER =
GS =
LL =
b. ΔLL =
c. ΔTR =
DD =
NW =
ΔDD =
ΔDD =
Figure D-2.6f: Bank B’s Third Balance Sheet
3.
Bank B
A
TR =
RR =
ER =
GS =
LL =
L
DD =
NW =
NOTE: Bank B is fully loaned up and
its Balance Sheet balances.
Table D-2.1a: Summary of Deposit Expansion
Process
Bank
ΔTR
ΔRR
ΔER
ΔLL
ΔDD
ΣΔDD
A
B
$1.00m $0.00m $1.00m $1.00m $1.00m $1.00m
$1.00m $0.10m $0.90m $0.90m $0.90m $1.90m
C
$0.90m $0.09m $0.81m $0.81m $0.81m $2.71m
D
$0.81m $0.08m $0.73m $0.73m $0.73m $3.44m
E
Other
Banks
Totals
Figure D-2.7a: The Banking System’s First
Balance Sheet When r = 10%
1.
Banking System
A
TR = $50m
RR = $50m
ER = $0m
GS = $140m
LL = $335m
L
DD = $500m
NW = $25m
NOTE: r = 10% and since ER = 0, the Banking
System is fully loaned up (ER = 0 for all banks
in the Banking System).
Figure D-2.7b: Banking System’s Second Balance
Sheet
2.a. Fed purchases $1m in GS from Bank A
b. Money Creation Step: Banking System creates a multiple
number of LLs and DDs. (Note that the Banking System
can do this because it does NOT lose the DDs it creates.)
2.
Banking System
A
a.
TR = $51m
RR = $50m
ER = +$1m
GS = $139m
LL = $335m
b. ΔLL = +$10m
L
DD = $500m
NW = $25m
ΔDD = +$10m
Figure D-2.7c: Banking System’s Third Balance
Sheet
3.
Banking System
A
TR = $51m
RR = $51m
ER = 0
GS = $139m
LL = $345m
L
DD = $510m
NW = $25m
NOTE1: Banking System is fully loaned up
and the Money Supply (DDs) has increased.
Figure D-2.8a: The Banking System’s First
Balance Sheet When r = 10%
1.
Banking System
A
TR = $50m
RR = $50m
ER = $0m
GS = $140m
LL = $335m
L
DD = $500m
NW = $25m
NOTE: r = 10% and since ER = 0, the Banking
System is fully loaned up (ER = 0 for all banks
in the Banking System).
Figure D-2.8b: Banking System’s Second Balance
Sheet
2.a. Depositors convert $1m in DDs to C
b. Money Destruction Step: Banking System destroys a
multiple number of LLs and DDs. (As people use DDs to
pay off their LLs banks do not renew loans.)
Banking System
2.
A
a.
b.
L
TR =
RR =
ER =
GS =
LL =
DD =
ΔLL =
ΔDD =
NW =
Figure D-2.8c: Banking System’s Third Balance
Sheet
3.
Banking System
A
TR =
RR =
ER =
GS =
LL =
L
DD =
NW =
NOTE: Banking System is fully loaned up
and the Money Supply (DDs) has decreased.
Complex Multiplier Formulas
c = Currency Deposit Ratio = C/DD > 0
er = Excess Reserve Ratio = ER/DD > 0
MB = Monetary Base = TR + C
mm* = Complex Multiplier
mm* = (1 + c)/(r + er + c)
MS = C + DD
∆MS = ∆C + ∆DD
MS = mm*(MB)
∆ MS = mm*(∆ MB)
Figure E-1.1: Supply and Demand for
Money
1/P
MS
P
$1.00
100
$0.66
150
$0.50
200
$0.40
250
MD
M
Figure E-1.2: Illustrating an Excess Demand
for Money in the Money Market
1/P
MS
Money Market
$0.50
$0.40
MD
ED
M1
M2 M
NOTE: When the price level is P = 250 there is an ES in the
goods markets and ED in the money market. The adjustment
process in the goods markets drives prices down in all markets
(deflation)instantaneously.
Figure E-1.3: Illustrating an Excess Supply of
Money
1/P
MS
ES
Money Market
$0.66
$0.50
MD
M0
M1
M
NOTE: When the price level is P = 150 there is an ED in the
goods markets and ES in the money market. The adjustment
process in the goods markets drives prices up in all markets
(inflation) instantaneously
Figure G-1.1: Illustrating the Inflationary
Process When a Central Bank Overissues Money
1/P
M S0 M S1
ES
1/P0
Money Market
1/P1
MD
M0
M1
M
NOTE: When the money supply increases from MS0 to MS1
the Central Bank has over issued money. But the only
indication that it has that overissue has occurred is when the
adjustment process has run its long and disruptive course
with prices rising to P1 (no instantaneous adjustment).
Figure G-1.2: Illustrating the Adjustment
Process when Free Banks Overissue Money
1/P
M S0 M S1
ES
1/P0
Money Market
1/P1
MD
M0
M1
M
NOTE: When the price level is P0 and free banks overissue
money so that the money supply is now MS1 there is an
immediate reaction to reduce the money supply (because of
adverse clearings) and all the adjustment occurs in the shortrun in the money market, not the goods market.