(3) Money Supply Shifters (2 of 2)- Macro Topic 4.5

Chapter 1: Intro

• Introduction to monetary policy by Mr. Clifford.

• Importance of understanding the money market graph illustrating demand and supply for money.

• Introducing the concept of money supply shifters.

Chapter 2: Money Supply Shifters

• Three key shifters of the money supply:

  • Reserve Ratio

  • Discount Rate

  • Open Market Operations

• Emphasizes that Open Market Operations is the most significant of the three.

Chapter 3: Open Market Operations

• Definition: Transactions conducted by the central bank (the FED) involving buying or selling government bonds to/from private commercial banks.

• Other terms for government bonds include treasury bonds and T-bills, also referred to as securities.

• Rule of thumb for open market operations:

  • Buy Bonds → Increase Money Supply: When the FED buys bonds, it gives banks money, thus enlarging the money supply.

  • Sell Bonds → Decrease Money Supply: When the FED sells bonds, it takes money out of the system, shrinking the money supply.

Chapter 4: Discount Rate

• Explanation: The discount rate is the interest rate charged by the FED to commercial banks for borrowing.

• Impact of the discount rate on money supply:

  • Decrease in Discount Rate: Makes borrowing cheaper for banks, resulting in an increase in the money supply.

  • Increase in Discount Rate: Makes borrowing more expensive, leading to a decrease in the money supply.

Chapter 5: Reserve Requirement

• Definition: The percentage of funds that banks are required to keep in reserve and not loan out, mandated by law.

• Current reserve requirement in the U.S. is set at 10%.

• Effects of changing the reserve requirement:

  • Decrease to 2%: Banks can loan out more money, increasing the money supply.

  • Increase to 50%: Banks have to keep more money in reserve, reducing their lending capacity, hence decreasing the money supply.

Conclusion

• Summary on how the FED can manipulate one of the three shifters (Open Market Operations, Discount Rate, Reserve Requirement) to alter the money supply.

• Changes in the money supply lead to shifts in interest rates and affect aggregate demand.

• Encouragement to watch additional material on fractional reserve banking for deeper understanding.