Question

ASSIGNMENT - Monetary Policy

Based on the state of the U.S. economy, what should the Federal Reserve do with the federal funds rate?

Answer 1

The Federal Reserve implements monetary policy with the objectives of economic growth and price stability. As a part of monetary policy, the federal funds rates are lowered or increased as well as the open market operation is conducted to affect the money supply in the economy. As a result, the supply of money in the money market is also affected.
In recent months, the Federal Reserve has raised the federal funds rates in the region of 1% to 1.25%. It gave a signal that the economy is recovering well from the recession. It is also confirmed by the decrease in unemployment rate that is 4.1% that has brought back the investor’s confidence and there is an increased level of economic activities in the economy. Inflation rate also stands near 2%. In the light of such economic scenario of good hope and positive economic development, the Federal Reserve will slowly raise the federal fund rate and hold it for some time and then increase again. The strategy is to regulate the growth of economy without letting inflation rate to increase. For example, the Federal Funds Rate will be increased up to 1.25% to 1.5% and will be kept at this level for the next 2 to 3 months. On the basis of a rising inflation rate, the next decision upon the increase / hold / decrease in the federal funds rate will be taken.