Suppose the banks in the Federal Reserve System have $100 million in transactions accounts and the reserve requirement is 0.10. Ceteris paribus, if the reserve requirement is decreased to 0.07, then excess reserves will increase by .

= $3 million

Explanation:

Banks are mandated by banking regulation to keep a percentage of their total deposit  and can lend the balance. This is called the required reserve

The amount by which the total deposit exceeds the required reserve is called the excess reserve

The required reserve = Transaction × reserve requirement

                                   = 0.10 × 100

                                  = $ 10 million

Excess reserve = Transaction account balance - required reserve

                        = 100 - 10 = $90 million

With a decrease in reserve ratio to 0.07,

Excess reserve = 100 - (0.07 ×100)

                         = $ 93 million

Increase in excess reserve = $ (93 - 90) million

                                            = $3 million

Excess reserve will increase by $3 million

Explanation:

In this secanrio the reserve requirement is 0.10 that is 0.10* 100 million= $10 million.

The excess reserve is 100 million- 10 million= $90 million.

When there is a required reserve reduction to 0.07 then the reserve will be 0.07* $100 million= $7 million.

The excess reserve will be $100 million- 7 million= $93 million

Therefore the increase in excess reserve is $93 million- $90 million= $3 million

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