ECON1010 Introductory Microeconomics

Question:

1. Consider an economy in which initially there are no banks. Suppose that one consumer initially holds the entire money supply in the form of \$1,000 in currency. Then assume a new bank is opened, The First National Bank, and the consumer deposits the entire \$1,000 into the bank. Based on this scenario answer the following questions
1. Assuming that the First National Bank has a 100% reserve ratio, use a T account to show what effect this deposit will have.
1. Still assuming a 100% reserve ratio, explain what effect this deposit will have on the economy’s total money supply.
1. Show how the First National Banks T account will look, if instead it has a 10% reserve ratio and holds no excess reserves.
1. Following form c. if other banks now open up and face a 10% reserve ratio, and assuming that every consumer holds her or his money as deposits instead of currency, explain what effect the initial deposit will eventually have on the money supply.
1. Are consumers as a group wealthier when the banking system chooses a 10% reserve ratio.  Explain the reasons for your answer.
1. Using the AD-AS framework consider the following scenario. The economy is operating at full employment when an unanticipated crisis hits the banking sector that results in a credit squeeze.
2. Explain in detail how this event in the financial system is likely to impact the real economy and what will be the implications for unemployment and inflation in the short term. In your answer be sure to also address which components of the AD-AS model may be impacted by this scenario. Your answer should be around ½ page.
1. Using the diagram below, illustrate how this scenario will:
2. Influence equilibrium in the short run (SR) labelling the new SR equilibrium A.
3. Influence equilibrium in the long run (LR) assuming no government or policy intervention labelling the new LR equilibrium B.

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