Bond purchases from the public by commercial banks (increase/decrease) the money supply.
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OPTIONAL: http://www.federalreserveeducation.org/fed101/policy/basics.htm I. Introduction A. Objectives of Monetary Policy1. The fundamental objective of monetary policy is to aid the economy in achieving full-employment output with stable prices.a. To do this, the Fed changes the nation’s money supply.
Monetary Policy Keynesian View: FED
D. REVIEW /PREVIEW EXAMPLE:
FIRST: Chapters 15 and 16 SECOND: Chapter 14 THIRD: Chapter 10 FINALLY: Chapters 12 and 13 To increase the MS the fed must increase the ER of banks. Then banks could make more loans and create more money. To do this they would use an easy money policy. Easy Money Policy: If the MS increases: If the interest rates decline: If investment increases: II. Balance Sheet of the Fed A. two major Assets1. Securities which are federal government bonds purchased by Fed, and
III. The Tools of Monetary Policy A. Three Tools of the Fed over the Money Supply1. open market operations (OMO)
IV. Monetary Policy and the Monetary Policy Cause Effect Chain (graphs) A. "Easy" or expansionary monetary policy1. occurs when the Fed tries to increase money supply by expanding excess reserves in order to stimulate the economy.
Keynesian Cause-Effect Chain of Monetary Policy: FED
B. "Tight" or contractionary monetary policy1. occurs when Fed tries to decrease money supply by decreasing excess reserves in order to slow spending in the economy during an inflationary period.
Keynesian Cause-Effect Chain of Monetary Policy: FED
DR C. Textbook Graph (figure 16.5) 1. Using the textbook's "Key Graph 16.5", how would we illustrate expansionary MP?a. If the MS is Sm1 in graph 1 V. Effectiveness of Monetary Policy A. Changes in the price level changes the effectiveness of monetary policy1. Easy monetary policy may be inflationary if initial equilibrium is at or near full-employment. (AD3 to AD4) 2. The Fed acts through open market operations, selling bonds to raise interest rates and buying bonds to lower interest rates. Does buying bonds increase or decrease money supply?Buying bonds injects money into the money market, increasing the money supply. When the central bank wants interest rates to be higher, it sells off bonds, pulling money out of the money market and decreasing the money supply.
What happens to bonds when money supply increases?Open market purchases raise bond prices, and open market sales lower bond prices. When the Federal Reserve buys bonds, bond prices go up, which in turn reduces interest rates. Open market purchases increase the money supply, which makes money less valuable and reduces the interest rate in the money market.
What happens when the Fed buys government bonds from commercial banks?The Federal Reserve can influence the Federal funds rate by buying or selling government bonds. When the Federal Reserve buys bonds, this action increases the supply of excess reserves of banks. The Federal funds rate falls so it becomes cheaper for banks to borrow excess reserves overnight.
What happens with the money supply when the central bank buys government bonds?When a central bank buys bonds, money is flowing from the central bank to individual banks in the economy, increasing the supply of money in circulation. When a central bank sells bonds, then money from individual banks in the economy is flowing into the central bank—reducing the quantity of money in the economy.
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