Chapter 16 Monetary Policy
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. What happens when the Federal Reserve buys Treasury bills in the open market?The Fed's primary tool for implementing monetary policy is to buy and sell government securities in the open market. When the Fed buys (sells) U.S. Treasury securities, it increases (decreases) the volume of bank reserves held by depository institutions.
When the Fed sells Treasury bonds on the open market it will tend to?When the Fed sells bonds in the open market, we can expect: bond prices to fall and interest rates to rise.
What happens when the Fed buys Treasury bonds?When the Fed buys bonds from banks, their cash reserves at the Fed go up. As that liquidity cushion expands, banks have greater incentive to lend. Cheaper and more abundant credit then encourages more spending and investment.
Does buying Treasury bills increase the money supply?Buying Treasury securities increases the money supply. The Fed will issue a check to the seller. If the seller is a bank, this is a direct addition to bank reserves.
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