Question

The money multiplier declined significantly during the period​ 1930-1933 and also during the recent financial crisis of​ 2008-2010. Yet the M1 money supply decreased by​ 25% in the Depression period but increased by more than​ 20% during the recent financial crisis. What explains the difference in​ outcomes? A. There was a minimal increase in the currency ratio during the recent financial crisis. B. The excess reserves ratio increased rapidly during the recent financial crisis. C. There was a significant increase in the monetary base during the recent financial crisis. D. The overall level of deposit expansion decreased during the recent financial crisis.

Answer 1

Answer:

The correct answer is C. There was a significant increase in the monetary base during the recent financial crisis.

Explanation:

The Central Bank determines the monetary base and from there, financial intermediaries generate bank money.

If we see the composition of the balance of a Central Bank, the monetary base is equivalent to total assets less non-monetary liabilities.

If the monetary base increases: money creation

If the assets of the Central Bank increase (increase in foreign exchange reserves, increase in credit to the banking system or the public sector) without increasing non-monetary liabilities, it will logically have to increase the monetary liability (creation of money).

If non-monetary liabilities decrease, without variation of the asset, you will necessarily have to increase the monetary liability.