Unit 6 Monetary Policy

What is the opportunity cost of holding liquid money?

the interest you could be earning from other financial assets like stocks, bonds, and real estate

What type of relationship does interest rates and the quantity of money demanded?

inverse relationship

What are the demand shifters of the money market graph?

1. Changes in price levels (inflation)

2. Changes in income/rGDP

3. Changes in technology

Who sets up the money supply?

The Central Bank (The Fed) and they set the money supply directly through policy decisions rather than profit motive, so the MS Curve is vertical

What happens when you increase the money supply increases?

increase in the money supply -> decreases interest rate -> increases investment -> increases AD

What happens when you decrease the money supply?

decrease in the money supply -> increases interest rate -> decreases investment -> decreases AD

What are the 3 shifters of the Money Supply?

1. Reserve (Ratios) Requirements

2. Discount Rate

3. Open Market Operations

In a recession, what might the Fed do with the reserve requirement?

decrease the reserve ratio

In an inflationary gap or to combat rampant inflation, what could the Fed do with the reserve requirement?

increase the reserve ratio

The Discount Rate

the interstate rate that the FEd charges commercial banks for extremely short time frames to cover end of the day reserve requirements or crisis situations

What would the fed do to the discount rate to increase the money supply?

decrease discount rate

What would the fed do to the discount rate to decrease the money supply?

increase the discount rate

Open Market Operations

when the Fed buys or sells gov’t bonds (securities)

What could the Fed do to the open market operation to increase the money supply?

buy bonds

What could the Fed do to the open market operation to decrease the money supply?

sell bonds

Federal Funds Rate

the interest rate that banks charge one another for one-day loans of reserves

What can the Fed do to try to influence the Federal Funds Rate?

set a target rate and use open market operations to hit the target

Steps of the Fed’s monetary policy follows to stimulate the economy

decrease the interest rate by increasing investment, AD, GDP, and PL

Steps of the Fed’s monetary policy follows to slow the economy

increase the interest rate by decreasing investment, AD, GDP, and PL

What is the reserve requirement in the U.S realistically?

zero

Interest on Reserves (IOR)

the interest rate that the Federal Reserve pays commercial banks to hold reserves

Administered Rates

Interest rates set by the Fed directly rather than determined in a market

What are the demand shifters in the loanable funds market?

1. Changes in borrowing by consumers

2. Changes in borrowing by businesses (investment spending)

3. Changes in borrowing by the gov’t

What are the supply shifters in the loanable funds market?

1. Changes in private savings behavior

2. Changes in public savings

3. Foreign financial capital inflow/outflow

In the loanable funds market demand for loans comes from?

borrowers/investment

In the loanable funds market supply comes from?

lenders/savings