Monetary Policy
Additionally, the federal funds rate is
very important for the Fed's monetary policy because the Fed uses the federal funds rate as a monetary policy target since it can control the rate through open market operations.
What is the disadvantage of holding money?
Money, in the form of currency or checking account deposits, earns either no interest or a very low rate of interest.
In the figure to the right, which of the following events is most likely to cause a shift in the money demand (MD) curve from MD 1 to MD 2 (Point A to Point C)?
Increase in real GDP or increase in the price level
What gave the Fed a dual mandate?
The Employment Act of 1946.
Which of the following is not one of the monetary policy goals of the Federal Reserve ("the Fed")?
a high foreign exchange rate of the U.S. dollar relative to other currencies
Does the Fed's dual mandate require it to attain a zero percent unemployment rate? Briefly explain.
No, because even when the economy is at full employment, there is still a natural rate of unemployment.
The government would want the economy to contract when real GDP is
above potential GDP and the price level is rising.
When the Federal Open Market Committee (FOMC) decides to increase the money supply, it ____U.S. Treasury securities. If the FOMC wishes to decrease the money supply, it ____U.S. Treasury securities.
buys sells
More widespread use of mobile wallets
ms decrease i decrease
If the FOMC orders the trading desk to sell Treasury securities,
the money supply curve will shift to the left, and the equilibrium interest rate will rise.
The new equilibrium will be where
the new money supply curve intersects the original money demand curve.
What is the advantage of holding money?
Money can be used to buy goods, services, or financial assets.
Does the Fed's dual mandate require it to attain a zero percent inflation rate? Briefly explain.
No, because price stability is sufficient.
When the Fed conducts an open market purchase, the interest rate should
decrease
With an expansionary monetary policy, investment, consumption, and net exports all ________, which results in the aggregate demand curve shifting to the ________, increasing real GDP and the price level.
increase; right
When interest rates on Treasury bills and other financial assets are low, the opportunity cost of holding money is _________, so the quantity of money demanded will be _________.
low; high
If the Fed uses monetary policy to keep real GDP at its full-employment level, the inflation rate in 2021 will be
1.7% With contractionary monetary policy, the inflation rate in 2021 will be the change in the price level (122 minus 120) divided by the "original" price level of 120. Multiply the result by 100 to express it as a percent.
If the Fed does not take any policy action, in 2021 the level of real GDP will be $ ____ and the price level will be ___
18.5 trillion , 124
If the Fed takes no policy action, the inflation rate in 2021 will be
3.33%
When the Federal Reserve sells bonds as a part of a contractionary monetary policy, there is:
A decrease in the money supply and an increase in the interest rate
When the Federal Reserve increases the required reserve ratio as a part of a contractionary monetary policy, there is:
A decrease in the money supply and an increase in the interest rate.
Suppose the economy is initially in long-run equilibrium. The Fed enacts a policy to buy bonds. In the short-run, this expansionary monetary policy will cause:
A shift from AD 1 to AD 2 and a movement to point B, with a higher price level and higher output.
Suppose the economy is initially in long-run equilibrium. The Fed decides to increase the discount rate. In the short-run, this contractionary monetary policy will cause:
A shift from AD2 to AD1 and a movement to point D, with a lower price level and lower output.
What is a banking panic?
A situation in which many banks experience runs at the same time.
What would be the Fed's reaction if actual real GDP in 2006 occurs at point B and potential GDP occurs at LRAS 06? That is, what step will the Fed likely take to control inflation in the second period?
An open market sale of government securities.
Which of the following is a monetary policy target used by the Fed? A. Unemployment rate. B. Interest rate. C. Budget deficit. D. Growth rate of GDP.
B. Interest Rate
Which one of the following is not one of the monetary policy goals of the Fed? A. Maintain price stability. B. Reduce income inequality. C. Maintain high employment. D. Maintain stability of financial markets and institutions.
B. Reduce income inequality.
Who is able to borrow and lend at that rate?
Banks are able to borrow and lend from each other at that rate.
Who borrows money and who lends money at this "target interest rate"?
Banks borrow and banks lend.
The Fed uses policy targets of interest rate and/or money supply because A. it is difficult to set a target for the unemployment rate, which constantly fluctuates. B. the target for the GDP growth rate is set by Congress. C. it can affect the interest rate and the money supply directly and these in turn can affect unemployment, GDP growth, and the price level. D. the inflation rate is controlled by Congress and the White House.
C.
The new equilibrium will be
C. where the new money supply curve intersects the original money demand curve
In the figure to the right, the economy experiences inflation in the second period. What would be the Fed's reaction if actual real GDP occurs at point B and potential GDP occurs at LRAS 2?
Contractionary policy Open market sale of government securities Increase interest rates
Which interest rate does the Fed target?
The federal funds rate
Consider the figures below and determine which is the best description of what causes the shift from AD1 to AD2. Example A AD2--->AD1 Example B AD1--->AD2 A.) Example A shows a contractionary monetary policy. The price level and real GDP both fall. B.) Example B shows an expansionary monetary policy. The price level and real GDP both rise. C.) Example A shows an expansionary monetary policy. The price level rises and real GDP falls. D.) Both examples show expansionary monetary policy. The price level and real GDP both rise. E.) Both A and B.
E.) Both A and B.
We would expect the Fed to pursue what type of policy in order to move AD 2 to AD Subscript 2 comma policy and reach equilibrium (point C farthest top right) in the second period?
Expansionary monetary policy.
If the Fed decides to carry out an expansionary monetary policy because it believes aggregate demand will not increase enough to keep the economy at potential GDP, the inflation rate will most likely be lower than it would have been without the policy.
False
"Federal Reserve Expected to Deliver Rate Increases" What rate was the headline likely referring to?
Federal funds rate.
The Fed changes the discount rate as a part of its policy to reach all of the following objectives except:
High unemployment.
What do economists mean by the demand for money?
It is the amount of money—currency and checking account deposits—that individuals hold.
Suppose the economy is in equilibrium in the first period at point A. In the second period, the economy reaches point B. What policy would the Fed likely pursue in order to move AD 2 to AD Subscript 2 comma policy and reach equilibrium (point C) in the second period?
Open market purchase of government securities
Which of the following best explains how the Federal Reserve acts to help prevent banking panics?
The Fed acts as a lender of last resort, making loans to banks so that they can pay off depositors.
Why would the Fed intentionally use contractionary monetary policy to reduce real GDP?
The Fed intends to reduce inflation, which occurs if real GDP is greater than potential GDP.
What can we expect from the Federal Reserve Bank if it seeks to move the economy in the direction of long-run macroeconomic equilibrium?
The Fed will pursue an expansionary monetary policy.
Monetary policy is defined as:
The actions the Federal Reserve takes to manage the money supply and interest rates.
What is the discount rate?
The discount rate is the rate at which the Fed lends to banks.
What is the name of the "target interest rate" mentioned in this article? In 2015, one article in the Wall Street Journal discussed the possibility of "a September quarter-point increase in the Fed's range for overnight target rates," while another article noted, "the U.S. central bank's discount rate...has been set at 0.75% since February 2010."
The federal funds rate.
What are the Fed's main monetary policy targets?
The money supply and interest rates
Why does the Fed's actions to increase or decrease the rate you identified above attract so much attention?
This rate ultimately has a substantial effect on many other interest rates.
If actual real GDP in 2006 occurs at point B and potential GDP occurs at LRAS 06, we would expect the Federal Reserve Bank to pursue ____ monetary policy.
a contractionary
If the Fed wants to keep real GDP at its potential level in 2021, it should use ____ policy. This means that the trading desk should be ___ Treasury bills.
a contractionary, selling or expansionary, buying
If the Federal Open Market Committee (FOMC) decides to increase the money supply, it orders the trading desk at the Federal Reserve Bank of New York to
buy U.S. Treasury securities.
When the Fed conducts an open market purchase, the Fed ____ and the money supply ____ remains the same .
buys securities from banks increases
When the Fed conducts an open market purchase, the Fed ___ and the money supply ___
buys securities from banks, increases
As the interest rate increases,
consumption, investment, and net exports decrease; aggregate demand decreases.
"The role of the Federal Reserve is to remove the punchbowl just as the party gets going." When he said "to remove the punchbowl," he meant to engage in _____ policy.
contractionary
In the figure to the right, the opportunity cost of holding money _____ when moving from Point A to Point B on the money demand curve. (down the curve)
decreases
Actual real GDP Potential real GDP Price level Unemployment
decreases does not change decreases increases
If it did not increase its target for the federal funds rate, the policy goal the Fed would be promoting is
economic growth, because maintaining lower interest rates would stimulate the economy and raise the price level.
The Fed's strategy of increasing the money supply and lowering interest rates in order to increase real GDP is called
expansionary monetary policy.
To affect economic variables such as real GDP or the price level, the monetary policy target the Federal Reserve has generally focused on is the
federal funds rate.
Since 1950, the annual inflation rate in the U.S.
has typically been positive, but it has also varied substantially, peaking around 1980, and becoming negative for several months in early 2009 due to the effects of the Great Recession.
If the Fed's policy is successful, what is the effect on the following indicators?
in no change in de
If the Federal Reserve Bank's policy is successful, what is the effect on the following macroeconomic indicators? Actual real GDP: Potential real GDP: Price level: Unemployment:
increases does not change increases decreases
When the Fed uses monetary policy targets, they cannot use both a money supply target and an interest rate target at the same time because
interest rates are determined by money supply and money demand but the Fed does not control money demand
In terms of the economy, "just as the party gets going" refers to a situation in which real GDP ____ potential GDP, which will result in ____ the inflation rate.
is greater than, an increase in
The federal funds rate
is the rate that banks charge each other for short-term loans of excess reserves.
Which of the following is NOT a monetary policy LOADING... goal of the Federal Reserve bank (the Fed)?
low prices
Why is the Fed sometimes said to have a "dual mandate"? The Fed is said to have a" dual mandate" because
maintaining price stability and high employment are the two most important goals of the Fed that are explicitly mentioned in the Employment Act of 1946.
Which of the following is not a viable monetary policy target for the Fed?
money demand
As a result of the open market purchase, the
money supply curve will shift to the right.
Fed sells Treasury securities
ms decrease i increase
Fed decreases the required reserve ratio
ms increase i decrease
Real GDP increases
ms increase i increase
Imagine a graph shows equilibrium in the money market. The equilibrium interest rate is determined at point E where the downward-sloping money demand and vertical money supply curves intersect. Suppose the Fed wants to lower the equilibrium interest rate. To lower the equilibrium interest rate, the Fed will take actions that will
shift the money supply curve to the right.
An increase in interest rates affects aggregate demand by
shifting the aggregate demand curve to the left, reducing real GDP and lowering the price level
Congress broadened the Fed's responsibility since
the 1930s as a result of the Great Depression.
The federal funds rate is
the interest rate that banks charge each other for overnight loans.
If the price level decreases,
the money demand curve shifts to the left.
If real GDP increases,
the money demand curve shifts to the right.
One of the goals of the Federal Reserve is price stability. For the Fed to achieve this goal,
the rate of inflation should be low, such as 1% to 3%, and should be fairly consistent
When Congress established the Federal Reserve in 1913, its main responsibility was
to make discount loans to banks suffering from large withdrawals by depositors.
If the Fed believes the inflation rate is about to increase, it should
use a contractionary monetary policy to increase the interest rate and shift AD to the left.
If the Fed believes the economy is about to fall into recession, it should
use an expansionary monetary policy to lower the interest rate and shift AD to the right.
