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Total amount - Macro Economics

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Total amount of new loans in the economy : Assume that all banks hold only the required 10% reserves and always loan out the rest, and that no cash is held by the public.

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									              Sub: Economics                                                                   Topic: Macro Economics

              Question:
              Total amount of new loans in the economy- Assume that all banks hold
              only the required 10% reserves and always loan out.

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              Johnny Fat cat withdraws $15,000 from his checking account at The DL Bank. He pays $10,000
              to Sammy Loan shark, who puts the money in his checking account at The Sopranos Bank.
              Johnny uses the other $5,000 as paper for his hand-rolled cigarettes, all of which he smokes
              ("nothing smokes better than a $100 bill," he loves to tell his friends).
              Assume that all banks hold only the required 10% reserves and always loan out the rest, and
              that no cash is held by the public

              What will be the total amount of new loans in the economy after Sammy’s payment? Show
              your work.


              Solution:
              When Sammy makes payment to Bad Boy’s Bank, 10% of the principal amount will be kept as
              required reserves with the bank.

              10% of $8000 = $800

              The remaining $8000 - $800 = $7200 will be loaned out by the bank.

              This new loan will lead to creation of new deposits by deposit multiplier times.

              So, $7200 * 10 = $72,000 will be the total amount of new loans in the economy after Sammy’s
              payment.



                                                          ** End of the Solution **

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