Suppose that the bank has the following balance sheet: Assets ...

[Kthamas]

Suppose that the bank has the following balance sheet:
 
  Assets Liabilities
  Reserves 75,000 Deposits 500,000
  Loans 430,000 Net worth 5,000
 
  If the required reserve ratio is 10 percent, what is the maximum the bank can loan out? Suppose the bank makes this loan and the borrower spends the money, which is deposited in a different bank. Show the impact of these transactions on the bank's balance sheet.

Question 2

Increased foreign direct investment in India has contributed to its recent economic growth.
 
  Indicate whether the statement is true or false

[shoemake]

Answer to Question 1

Since the required reserve ratio is 10 percent, required reserves are 0.1  500,000 = 50,000. Thus, excess reserves are 75,000 - 50,000 = 25,000. If the bank loans out that amount, the effect on the balance sheet is shown below. Essentially, reserves will be reduced by 25,000 when the money borrowed is spent and deposited in a different bank. Loans will increase by 25,000. Note that the right-hand side of the balance sheet does not change (it increases by the amount of the loan, then decreases by the amount of the loan when the money is spent):

Assets Liabilities
Reserves 75,000
-25,000
50,000
Deposits 500,000
Loans 430,000
+25,000
455,000 Net worth 5,000

Answer to Question 2

TRUE

[Kthamas]

Thanks for the timely response, appreciate it

[Jsherida]

Excellent