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Answer :
In the market for reserves, the supply and demand framework can be used to analyze the impact of changes in the economy on the Karachi Interbank Offered Rate (KIBOR). KIBOR is the benchmark interest rate at which banks lend to each other in Pakistan. When the economy is unexpectedly weak, leading to a decrease in the amount of checkable deposits, it affects the supply and demand for reserves.
In this scenario, the decrease in checkable deposits implies that banks have fewer funds available for lending and maintaining reserve requirements. This results in a decrease in the supply of reserves in the market. The supply curve for reserves shifts to the left, indicating a reduction in the quantity of reserves available.
On the other hand, the demand for reserves is determined by the needs of banks to meet their reserve requirements and conduct day-to-day operations. The demand curve for reserves remains relatively unchanged in this situation.
As a result, the decrease in the supply of reserves and the unchanged demand for reserves create an imbalance in the market. There is now a shortage of reserves. Banks need to acquire additional reserves to meet their requirements, which puts upward pressure on the KIBOR.
In terms of the KIBOR, the decrease in the amount of checkable deposits leads to higher borrowing costs for banks. They are willing to pay higher interest rates to obtain the necessary reserves. Consequently, the KIBOR is likely to increase as a result of the unexpectedly weak economy and decreased amount of checkable deposits.
In conclusion, in the market for reserves, a decrease in checkable deposits due to a weak economy leads to a decrease in the supply of reserves. This imbalance results in a shortage of reserves, causing banks to bid up the KIBOR. Thus, the KIBOR is expected to increase in response to the decrease in checkable deposits, assuming all other factors remain constant.
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