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Macroeconomics - Monetary Policy Federal Reserve System The...

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Monetary Policy Federal Reserve System - The Fed lends only to its member banks, not to the business community. - Accepts deposits of, and makes loans to commercial banks - Supply the economy with paper money in the form of Federal Reserve notes - Provide for the collection of checks When the government borrows money, it enters into the same market as private business and competes for funds. The added demand will drive the interest rate higher . This activity produces the crowding-out effect. The result is reduced corporate borrowing and investment. Open market operations - buying and selling government securities; the conduct of open market operations is the primary mechanism of monetary (money supply) control used by the Fed. Fed purchases are expansionary (because they increase bank reserves and the money supply). Fed sales are contractional (because money is paid into the Federal Reserve, taking it out of circulation, reducing bank reserves, and “contracting” the money supply. Open-market purchases of government securities puts more money into circulation. Vault cash that was previously unavailable to the public for circulation is placed into the hands of the public by the open-market purchase of government securities. The federal budget deficit is the amount by which the federal government’s expenditures (transfers and purchases) exceed its revenues (tax collections) in a given year. Which of the following results could be expected from an open market operation of the Federal Reserve? A sale of securities would raise interest rates . A sale of securities would remove dollars from the economy and reduce bank reserves. Thus, banks could not lend as much as previously, and higher interest rates would follow. Money supply and interest rates are inversely proportional (less $ = higher interest rates). The discount rate of the Federal Reserve System is the amount the central bank charges when making loans to commercial (member) banks.
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