CFA Practice Question

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CFA Practice Question

The reserve requirement is 10%. You take $5,000 cash and deposit it in your checking account. What is the change in the money supply from this deposit?
Correct Answer: An increase of $45,000

The money supply is currency plus deposits. Deposits have increased by $50,000, but currency has been reduced by $5,000 (since it is no longer in the hands of the public). Thus the change in the money supply is an increase of $45,000.

User Contributed Comments 9

User Comment
danlan Note the change must be deducted by 5000
thekapila or you can calculate.
5000 deposit
reserve 5000 *.10 = 500
4500 available to public.
Mutiple effect = 10
money supply == 45000
pepper great suggestion thekapila
YOUCANDOIT it all makes sense now!
puranam Checking account is M1
It should be saving deposit account to be M2
sgossett86 Question 2 is pretty much the same but there is no increase in money supply because money isn't multiplied until loans are given out... which it doesn't specify loans are given out in this problem yet the money is supposedly multiplied.
something thekapila : Money multiplier already implies reserve. It's the sum of infinite geometric progression (1-reserve) + (1-reserve)(1-reserve) + (1 -reserve)^3 and so on. Net result = 1/ 1 - ( 1 - reserve) = 1/reserve. So, reducing reserve again from 1/reserve to come up with money supply does not sound reasonable. AN explanation is better as Money supply includes currency + deposits . Deposits increased by 50,000 and currency reduced by 5000, therefore net 45000 increase in money supply. Hope it helps.
Marinov So how is this question different from number 5 where in an identical situation the answer was 0?
tennis @Marinov: the difference is in this case you deposit the cash into the banking system. while in question 5 it's a transfer from one account to another.
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