CH5 The_Fed_Monetary_Tools - The Fed's Monetary Policy...

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The Fed's Monetary Policy ToolsAdding or reducing reserves in the banking system affects the money supply. Let us consider the Fed's role in changing the money supply. It should come as no surprise that the Fed changes the money supply by altering the level of bank reserves. Remember the definition of the monetary base and the determination of the money supply:the monetary base equals all reserves held by banks and all currency in circulation.Money supply= (Monetary base) x (Money multiplier)andChange in the Money supply= (Change in the Monetary base) x (Money multiplier).So let us focus our attention on how the Fed uses its policy tools. The Fed will alter the monetarybase and thus change the money supply by a multiple of that amount. The Fed uses monetary policyto influence economic activity. But the Fed does not have direct control over the pace of economic growth. Rather, it uses policy tools to accomplish this task.

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