Chapter 19 - The instruments of central banking. In this chapter you will learn to explain the level and determinants of reserve requirements, understand the use of the discount window, realize the importance and use of open market purchases and open market sales. | Chapter 19 The Instruments of Central Banking Copyright © 2009 Pearson Addison-Wesley. All rights reserved. Learning Objectives • Explain the level and determinants of reserve requirements • Understand the use of the discount window • Realize the importance and use of open market purchases and open market sales Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 19-2 Introduction • Bank lending and money supply are related by some multiple to the level of bank reserves • Federal Reserve exercises control over bank lending and money supply by altering the level of reserves in the system and influencing the deposit creation multiplier • Fed accomplishes these objectives by changing the reserve requirements and by changing the actual amount of reserves held Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 19-3 1 Reserve Requirements • Within limits established by Congress, Federal Reserve can specify reserve requirements banks and deposittype institution must hold against deposits. • This applies even if the institution is not a member of the Federal Reserve • Reserves can be in form of vault cash or deposits in regional bank—do not earn interest Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 19-4 Reserve Requirements (Cont.) • Percentage of required reserves varies with type of account – Demand Deposits • Can range between 8% to 14% • 3% of the first $ million of demand deposits • Currently set at 10% on deposits above $ million – Business-owned time and savings deposits • Can range between zero to 9% • Currently set at 0% Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 19-5 Reserve Requirements (Cont.) • Effect of lowering the reserve requirement – Automatically increases all banks’ excess reserves – Increases demand deposit through multiple lending – However, the ultimate impact depends on banks desire to make loans— element of discretion – Expands the money supply Copyright © 2009 .
