If commercial banks are holding excess reserves due to low demand for loans from businesses and consumers, what effect will a reduction in the discount rate have on the money supply?

Show Answers

Raise the money supply since borrowing from the central bank becomes less costly for banks.Lower the money supply because borrowing costs for businesses and consumers increase.Leave the money supply unchanged because banks already possess excess reserves they are not lending out.Reduce the money supply since banks will prefer borrowing from the central bank rather than purchasing government bonds.None of the above.

Explanation

When banks hold excess reserves and there is low demand for loans, a decrease in the discount rate does not affect the money supply because banks are not motivated to lend more. Therefore, the money supply remains unchanged despite cheaper borrowing costs from the central bank.