Question

The Federal Reserve established the Primary Market Corporate Credit Facility (PMCCF) on March 23, 2020, to support credit to employers through bond purchase and loan issuances. Specifically, the PMCCF will provide companies access to credit so that they are better able to maintain business operations and capacity during the period of dislocations related to the pandemic. Through this facility, the Federal Reserve will make loans and purchase bonds.

Please combine the bond supply and demand model, discuss the impact of this new Fed’s policy on the market interest rate. Provide clear arguments based on chapter 6 contents to support your view. You must also clearly show the impact in the graph featured by the demand and supply curve (as well as the direction of shift, if any).

Answer 1

When the Federal Reserve Board changes the rate at which banks borrow money,this has a ripple effect among the entire economy.Lowering rates makes borrowing money cheaper.This encourages consumer and business spending and investment and can boost asset prices.It can also lead to problems such as inflation and liquidity traps,which undermines the effectiveness of low rates.

The aggregate demand curve illustrates the relationship between two factors-the quantity of output that is demanded and the aggregated price level.Another way of defining aggregate demand is as the sum of consumer spending,government spending,investment,and net exports.The aggregate demand curve assumes that money supply is fixed.Altering the money supply impacts where the aggregate ddemand curve is plotted.This graph shows the effect of expansionary monetary policy,which shifts aggregate demand to the right.

Monetary policy is the process by which the monetary authority of a country contols the supply of money with the purpose of promoting stable employment,prices and economic growth.A liquidity trap is a situation where injections of cash into the private banking system by a central bank fail to lower interest rates and therefore fail to stimulate economic growth.Usually central banks try to lower interest rates by buying bonds with newly created cash.In a liquidity trap,bonds pay little to no interest,which makes them nearly equivalent to cash.Under the narrow version of Keynesian theory in which this arises,is is specified that monetary policy affects the economy only through its effect on interest rates.Thus,if an economy enters a liquidity trap,further increases in the money stock will fail to further

lower interest rates therfore fail to stimulate.

Sometimes,when the money supply is increased,as shown by the Liquidity Preference Money Supply curve shift,it has no impact on output or on interest ratess.This is a liquidity trap.