Question

Explain the monetary policy tools that the Fed could use if it wishes to expand the money supply. Which of the policy tools has the most predictable effects? Explain and be specific.

Answer 1

The Fed can use tools to achieve its monetary policy goals: the discount rate, reserve requirements, open market operations, and interest on reserves.

The discount rate is the interest rate that Reserve Banks offer short-term credit to commercial banks. The Federal Reserve 's discount-rate loans supplement open market transactions in achieving the federal fund target rate and serve as a liquidity backup for commercial banks. The decline in the discount rate is increasing as the discount rate has an effect on other interest rates. Lower rates encourage consumer and corporate loans and spending.

Reserve requirements are the portions of reserves that banks are expected to hold in cash in their vaults or on a reserve bank account. A reduction in reserve requirements is increasing as the funds available for lending to customers and businesses in the banking system are increased.

Open market operations, the purchase and selling of US government securities were a trustworthy device. As we heard earlier, the FOMC leads this method and is run by the New York Federal Reserve Bank.

The interest onreserves is the Federal Reserve 's newest and most commonly used tool after the 2007-2009 financial crisis. Excess funds kept by reserve banks are paid for the interest on deposits.Fed is obliging banks to hold on reserve a percentage of their deposits. Banks also have additional funds in reserve in addition to these accounts. The current interest-payment policy on reserves allows the Fed to use interest in order to influence financial lending as a monetary policy tool. The FOMC, for example, could reduce its interest rate on excess reserves, if it wanted to create a larger incentive for banks to lend their excess reserves. Banks are more likely to lend money rather than hold it in reserve creating expansionary policy.