Question

In: Economics

Graphically illustrate the impact of an open-market purchase by the Federal Reserve on the equilibrium interest rate using the theory of liquidity preference and the market for real money balances.

a. Graphically illustrate the impact of an open-market purchase by the Federal Reserve on the equilibrium interest rate using the theory of liquidity preference and the market for real money balances. Be sure to label: i. the axes; ii. the curves; iii. the initial equilibrium values; iv. the direction the curve shifts; and v. the terminal equilibrium values. 

b. Explain in words what happens to the equilibrium interest rate as a result of the open-market purchase.

Solutions

Expert Solution

a. Graph

b. Open market purchase allude to national bank acquisition of government securities so as to extend cash in the financial framework and impact interest rates. Consequently open market purchase by Federal bank expands the reserves in the market. This will diminishes the interest rates. Hence the equilibrium interest rate falls as a result of the open-market purchase.

Rahul Sunny answered 2 years ago
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