Question

Imagine you’re the head of the Federal Reserve. You have decided to decrease the money supply in the United States economy. Fully explain one way you can make this happen.

Answer 1

Altering the reserve ratio is rarely used but potentially very effective. The reserve ratio is the amount of assets which a bank must keep against deposits. A fall in the ratio would cause the bank to lend further, thereby rising the money supply. The opposite result would be an rise in the proportion

The open market operations consist of the Fed's buying and sale of government securities. When the Fed buys back issued securities from major banks and bond dealers (such as Treasury bills), it raises the money supply in the hands of the people. Conversely, when the Fed sells a defense the supply of money reduces. The words "purchase" and "sale" apply not to the public but to the Fed's actions.

The Treasury Security seller deposits the check inside a safe, through the deposit of the seller. In addition, the bank deposits the check of the Federal Reserve at its Federal Reserve bank in the area, thereby growing its reserves. The opposite sequence occurs when the Federal Reserve sells treasury securities: deposits from the issuer fall, and assets from the bank fall, in turn.

A increase in bank reserves can enable multiple expansion of deposits in a system with fractional reserve requirements, and a decrease will result in multiple deposit contraction. The multiplier value depends on deposits with the correct reserve ratio. A high require-reserve ratio reduces the multiplier's value. The multiplier value is increased by a low required-reserve ratio.