Monetary Policy Review

A set of flashcards to help review key concepts from the lecture on Monetary Policy.

What should the Fed do to decrease the money supply by $200 billion with a reserve requirement of 5%?

Decrease reserves by $10 billion.

What effect does an expansionary monetary policy have on interest rates and investment spending?

Interest rates decrease; investment spending increases.

At equilibrium in the money market, if money supply equals money demand of $400, what is the investment?

$500.

What do changes in interest rates cause a shift in?

Either the investment demand curve or the aggregate demand curve.

What usually happens when the money supply increases, holding everything else constant?

Interest rates decrease and aggregate demand increases.

What is the effect of a contraction of the money supply?

Increases the interest rate and decreases aggregate demand.

What monetary policy is intended to reduce inflation?

Decreasing the money supply to shift the aggregate demand curve leftward.

How much U.S. securities should the Fed sell to achieve a $400 billion decrease in the money supply with a 10% reserve requirement?

Sell $40 billion of U.S. securities.

What does the diagram indicate about the effectiveness of monetary policy during a recession?

Monetary policy is likely to be more effective at fighting a recession than fiscal policy.

What is true regarding the Federal Reserve and the federal funds rate?

The Federal Reserve sets the target for the federal funds rate and influences it through open-market operations.

How does the Fed lower the federal funds rate?

By buying bonds from banks and the public.

What should the Fed do to keep interest rates unchanged if demand for money increases?

Buy bonds in the open market.

If the economy is at aggregate demand AD2, what should the Fed do?

Buy bonds.

To achieve a noninflationary, full-employment real GDP level, how should the Fed adjust the money supply at a 4% interest rate?

Decrease the money supply from $225 billion to $150 billion.

What does the liquidity trap indicate about monetary policy effectiveness?

Monetary policy would not be effective at decreasing interest rates and increasing investment.

What does the investment demand curve shift indicate about businesses?

Businesses are becoming more pessimistic.