Simply stated, monetary policy is carried out by the Fed to change the money supply. When the Fed increases the money supply, the policy is called expansionary. When the Fed decreases the money supply, the policy is called contractionary. These policies, like fiscal policy, can be used to control the economy. Under expansionary monetary policy the economy expands and output increases. Under contractionary monetary policy the economy shrinks and output decreases. Let's investigate how the Fed affects the money supply. There are three basic ways that the Fed can affect the money supply. The first is through open market operations. The second is by changing the reserve requirement. The third is through changing the federal funds interest rate. Each of these actions in some way affects the total amount of currency or deposits available to the public.
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