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Suppose the Fed conducts an open market purchase by buying $10 million in Treasury bonds from Acme Bank. Sketch out the balance sheet changes that will occur as Acme converts the bond sale proceeds to new loans. The initial Acme bank balance sheet contains the following information: Assets – reserves 30, bonds 50, and loans 50; Liabilities – deposits 300 and equity 30.

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    $\begingroup$ Your balance sheet is not balancing to begin with, so something is off already. $\endgroup$ – ssn Apr 6 '18 at 11:18
  • $\begingroup$ Ssn are saying that because the bank is running at very low fraction of its deposits? $\endgroup$ – marshal craft Apr 6 '18 at 11:42
  • $\begingroup$ And seems pretty simple, bonds are now 40, loans are 60 not accounting for interest in loans and yield on bonds. What was confusing you that you need to ask? $\endgroup$ – marshal craft Apr 6 '18 at 11:46
  • $\begingroup$ I wasn't sure if I should go into detail about a money multiplier with the new loans. Maybe I am just overthinking the question? $\endgroup$ – Elsie89 Apr 6 '18 at 13:34
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    $\begingroup$ @marshalcraft Just wanted to make sure that OP didn’t leave anything out. Balance sheets are suppose to balance no matter how much any fractions are high or low, this is always true. No cases ever exist where this is not true. $\endgroup$ – ssn Apr 6 '18 at 14:15
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The sale of the bonds (assets) will only affect the assets-side of the balance sheet.

If Acme bank did not lend out the money, your “bonds” would go 50-10 = 40. And your cash would go 0+10 = 10.

If they lend out the money, bonds still go to 40 and lending goes up by 10, so 50+10 = 60.

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  • $\begingroup$ That may be a little over simplified in that (a) cash is uncommon in today's banking and (b) initially at least a loan will increase both sides of a bank's balance sheet $\endgroup$ – Henry Apr 7 '18 at 10:05
  • $\begingroup$ @Henry you mean an oversimplified answer to this very detailed question? Further a) cash in relations to modern day banking is not the same physical cash and b) depends on how it is structured. $\endgroup$ – ssn Apr 7 '18 at 10:18
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Like @ssn, I would be happier if the balance sheet balanced, so let's suppose the original question said "the initial Acme bank balance sheet contains the following information: Assets – reserves 30, bonds 50, and loans 50; Liabilities – deposits 100 and equity 30", looking like:

 Assets               Liabilities

 reserves  30         deposits  100
 bonds     50         equity     30
 loans     50             
          ---                   ---
          130                   130

The impact of the sale of 10 worth of bonds to the Fed is simple as Acme Bank will increase its reserves at the Fed

 Assets               Liabilities

 reserves  40         deposits  100
 bonds     40         equity     30
 loans     50             
          ---                   ---
          130                   130

Perhaps Acme Bank then lends 10 to a customer, crediting that customer's deposit account

 Assets               Liabilities

 reserves  40         deposits  110
 bonds     40         equity     30
 loans     60             
          ---                   ---
          140                   140

The customer then spends the 10 on something (otherwise why borrow?), and presumably instructs Acme Bank to transfer 10 from the customer's deposit account to its supplier's bank, which Acme does by transferring some reserves at the Fed, making Acme's balance sheet look like

 Assets               Liabilities

 reserves  30         deposits  100
 bonds     40         equity     30
 loans     60             
          ---                   ---
          130                   130
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  • $\begingroup$ Maybe there was a mistake in the problem. The above looks much better. I will try to clarify with someone from class. $\endgroup$ – Elsie89 Apr 7 '18 at 22:06

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