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Unit 7 Assignment: Money, Banks, and the Federal Reserve System

In this Assignment, you will describe how money, banks, the Federal Reserve System, and the effects on money growth based on the rate of inflation.

Answer 1

Increasing the supply of money faster than real demand growth would trigger inflation. The explanation for this is that more capital is chasing the same amount of goods. Therefore, the increase in monetary demand causes firms to put up prices. When the production of money rises at the same rate as the actual output, so the prices remain the same.

If the money supply rises faster than real production in normal economic circumstances it will cause inflation.
The connection breaks down in a distressed economy (liquidity trap), leading to a decrease in circulation velocity. This is why in a depressed economy Central Banks can increase the money supply without causing inflation. This happened in the US between 2008-14, but as the economy improves and circulation speeds grow, increased money supply is likely to cause inflation

Inflation is triggered when an economy's money supply increases at a faster pace than the capacity of the economy to produce goods and services. The production of goods and services in our auction economy was unchanged but the supply of money increased from round one to round two. Since the supply of money was rising and the production of goods and services was not increasing, our economy was experiencing inflation.

The Federal Reserve is the US central banking agency, and the Fed has the task of conducting monetary policy to control the development of the money supply, among other things. Monetary policy is when the central bank of a country uses its monetary policy tools to achieve such goals as maximum employment, stable prices and moderate long-term interest rates. The dual mission of the Federal Reserve is to pursue the two coequal goals of maximum jobs and price stability.