5. The money creation process

Suppose First Main Street Bank, Second Republic Bank, and Third Fidelity Bank all have zero excess reserves. The required reserve ratio is 20%. The Bank of Canada buys a government bond worth $750,000 from Felix, a client of First Main Street Bank. He deposits the money into his chequing account at First Main Street Bank.

Complete the following table to reflect any changes in First Main Street Bank's T-account (before the bank makes any new loans).

Assets		Liabilities

Complete the following table to show the effect of a new deposit on excess and required reserves when the required reserve ratio is 20%.

Hint: If the change is negative, be sure to enter the value as a negative number.

Amount Deposited	Change in Excess Reserves	Change in Required Reserves
(Dollars)	(Dollars)	(Dollars)
750,000

Now, suppose First Main Street Bank loans out all of its new excess reserves to Deborah, who immediately uses the funds to write a cheque to Carlos. Carlos deposits the funds immediately into his chequing account at Second Republic Bank. Then Second Republic Bank lends out all of its new excess reserves to Felix, who writes a cheque to Janet, who deposits the money into her account at Third Fidelity Bank. Third Fidelity lends out all of its new excess reserves to Megan as well.

Fill in the following table to show the effect of this ongoing chain of events at each bank. Enter each answer to the nearest dollar.

	Increase in Deposits	Increase in Required Reserves	Increase in Loans
	(Dollars)	(Dollars)	(Dollars)
First Main Street Bank
Second Republic Bank
Third Fidelity Bank

Assume this process continues, with each successive loan deposited into a chequing account and no banks keeping any excess reserves. Under these assumptions, the $750,000 injection into the money supply results in an overall increase of in demand deposits.