Question 16

The maximum system loan increase is $500,000.

With a required reserve ratio of 10%, the bank can loan out its excess reserves while still maintaining the required amount in reserves. Given the excess reserves of $50,000, the total potential increase in loans can be calculated using the money multiplier.

A) $50 k

This option suggests that the maximum system loan increase is only equal to the amount of excess reserves. However, this does not take into account the money multiplier effect, which allows banks to lend more than just their excess reserves, making this option incorrect.

B) $500 k

This is the correct answer as it reflects the application of the money multiplier. With a reserve ratio of 10%, the money multiplier is calculated as 1 divided by the reserve ratio (1/0.10), which equals 10. Therefore, the maximum system loan increase is $50,000 (excess reserves) multiplied by 10 (money multiplier), resulting in $500,000.

C) $2 m

This option significantly overestimates the maximum system loan increase. Calculating based on the reserve ratio, the excess reserves and the money multiplier cannot yield such a high figure, making this option incorrect.

D) $5 m

Similar to option C, this answer also greatly exceeds the feasible increase in loans based on the reserve ratio and the given excess reserves. Thus, this option is not valid.

Conclusion

The correct answer, $500,000, accurately reflects the potential increase in loans based on the bank's excess reserves and the reserve requirement. All other options fail to consider the impact of the money multiplier or significantly miscalculate the potential lending capacity. Therefore, option B is the only viable answer given the parameters of the question.