Question

1. Which of these actions will increase AD? Indicate Yes or No.

1. The central bank buys bonds from private banks. ________

2. The central bank increases the money supply._______

3. The central bank increases the required reserve ratio. ­­­­_________

4. The central bank sells bonds on the open market. _________

5. The central bank uses open market operations to conduct expansionary monetary policy ______.

6. The central bank decreases the discount rate. ___________

Answer 1

a) The central bank buys bonds from private banks = Yes. Buying bonds will give private banks money which they could lend to customers. So money supply will increase which will increase aggregate demand.

b) The central bank increases the money supply = Yes. Increase in money supply increases the aggregate demand directly.

c) The central bank increases the required reserve ratio = No. Increase in required reserve ratio will decrease the capacity of the banks to lend. Their lending will decrease because they have to kept more reserves. This will decrease the aggregate demand.

d) The central bank sells bonds on the open market = No. When bonds are sold, public receives the bonds and government receives the money. So selling bonds will decrease the money supply which will decrease the aggregate demand.

e) The central bank uses open market operations to conduct expansionary monetary policy = Yes. Expansionary monetary policy will increase the money supply, hence increase the aggregate demand.

f) The central bank decreases the discount rate. = Yes. Discount rate is charged by central bank when giving loans. Decrease in discount rate means private banks have to give less in interest, which means banks have more money to lend. So it will increase the money supply and aggregate demand.