SIE13

Q: When the supply for money exceeds the demand,

A: interest rates fall, making consumer borrowing easier. explanation: Money available to lend is like all commodities in that its cost (interest) is impacted by supply and demand. When the supply is greater than the demand for money, interest rates fall, making consumer borrowing easier.

Q: When the demand for money exceeds the supply,

A: interest rates rise, making consumer borrowing more difficult. explanation: Money available to lend is like all commodities in that its cost (interest) is impacted by supply and demand. When the demand for money exceeds the supply, interest rates rise, making consumer borrowing more difficult.

Qbank*** Question: To contract the overall economy, the Federal Reserve Board (FRB), acting as agent for the U.S. Treasury department, will

Answer: sell securities via open-market operations, pushing interest rates up.

The best characterization of how economists view the money supply is...

Economists take a broad view of the money supply and include within it all cash (paper money and coins), loans, credit, and other liquid instruments, such as savings and checking accounts.

Active measures used by the Federal Reserve to influence the money supply

Federal Open-Market Operations Regulation T The Discount Rate The Reserve Requirement

Federal Reserve continued...

Increasing the money supply expands the economy and creates jobs, but if the economy expands too quickly (overheats), it may trigger high levels of inflation. High inflation is hard on the consumer, hurting the same people that a healthy economy helps.

Test Topic alert***

Milton Friedman, Ph.D. is considered the founder of monetarism (or monetarist) theory. Much of the work of the Federal Reserve is based on his theories.

Federal Reserve Board uses the measures of money supply as a diagnostic tool to "read" the economy

Money Supply: M1 i the measure of the most readily available money to spend: Cash (actual and coinage) and money in demand deposit accounts (DDA), such as checking accounts. This is the money that is closest to being spent and turned into economic activity. M2 consists of M1 plus "consumer savings deposits" -- those assets that are easily moved to a DDA and spent. Among the "consumer savings deposits" are savings accounts, retail (non-negotiable) CDs, money market funds, and overnight repurchase agreements. M1 is part of M2. M3 consists of M2 plus "large time deposits" -- those assets that are a bit harder to move into a DDA and be spent. Examples include negotiable (jumbo) CDs and multiday repurchase agreements. M2 is part of M3.

Broker Call Loan Rate

The Broker loan rate is the interest rate that banks charge BDs on money they borrow to lend to margin account customers. Margin accounts allow customers to purchase securities without paying in full. The amount not paid is essentially loaned to the customer by banks and BDs. The broker loan rate is also known as the call loan rate or call money rate. The broker loan rate usually is a percentage point or so above other short-term rates. Broker call loans are callable on a 24 hour notice.

To expand the money supply Helps expand the economy

The FRB will BUY securities from banks. The securities come out of the economy and the money goes into teh economy through the bank. The increase of reserves (cash) allows banks to make more loans and effectively lowers interest rates. By buying securities, the Fed pumps money into the banking system, expanding the money supply and reducing rates.

Federal Open-Market Operations

The FRB, acting as an agent for the US Treasury Department, influences the money supply by buying and selling US government securities (Tbills notes bonds) in the open market. These actions will expand or contract the money supply, depending on what they are doing. The Federal Open Market Committee (FOMC) meets regularly to direct the government's open-market operations.

Regulation T

The Fed set the minimum amount an investor must deposit when using credit to buy a security. Under Regulation T, the current initial deposit is 50% of the purchase price. If the FRB lowered the initial deposit requirement and allowed more borrowing, the extra cash available would likely raise stock prices. This would result in more merger activity, as well as investors using the additional wealth to make purchases, expanding the economy. Increasing the amount required at purchase (thus limiting credit) would have the opposite effect, slowing the economy. **The Fed leaves Reg T requirements as they are. It has remained constant since 1974

To contract (tighten) the money supply Helps contract the economy

The Fed will Sell securities to the banks. Now cash comes out of the banks (to pay for the securities) and the securities go in as each sale is charged against a bank's reserve (cash) balance. This reduces the bank's ability to lend money, tightening credit and effectively raising interest rates. By selling securities, the Fed pulls money out of the system, contracting the mone supply and increasing rates.

The Federal Reserve

The Federal Reserve System is the central bank of the US. It is called the Federal Reserve Bank or simply the FED. The system is directed by the Federal Reserve Board. (FRB) FRB's duties: Conduct the nation's monetary policy to promote maximum employment Promote a stable price environment, keeping inflation under control They perform these functions by managing the money supply: the amount of cash available within the US economy. This is called monetary policy.

4 prominent interest rates

The cost of doing business is closely linked to the cost of money. The cost of money is called INTEREST. Supply and demand of money determines the rate of interest that must be paid to the borrow it. When money available for loans exceeds demand, interest rates fall. When the demand for money exceeds the supply, interest rates rise. The level of a specific interest rate can be tied to one or more benchmark rates, such as the federal funds rate, the discount rate, the prime rate, and the broker call loan rate.

The Discount Rate

The discount rate is the rate the Fed charges for short-term loans to member banks. The discount rate also indicates the direction of FRB monetary policy. Decreasing rates indicates an easing of FRB policy and an increasing rate indicates a tightening of FRB policy. **only rate set by a unit of the Federal Government.**

The Discount Rate

The interest rate the Fed charges on loans to banks. Raising the discount rate tends to lift interest rates throughout the economy Lowering the discount rate tends to cause rates to drop.

Prime Rate

The prime rate is the interest rate that large US money center commercial banks charge their most creditworthy corporate borrows for unsecured loans. Each bank sets its own prime rate, with larger banks generally setting a rate that other banks use or follow. Banks lower their prime rates when the FRB eases the money supply, they raise their prime rates when the Fed contracts the money supply.

Federal Funds Rate

The rate that the commercial money center banks charge EACH OTHER for overnight loans of $1 million or more. It is considered the barometer of the direction of short-term interest rates, which fluctuate constantly and can be considered the most volatile rate in the economy.

The reserve requirement

The reserve requirement is the amount a bank must maintain on deposit with the Federal Reserve. Reserves dropping below this number indicate that the bank may have insufficient cash to meet depositor's demands. LOWERING this number frees up cash at the banks to fund loan activity, expanding the economy. RAISING this number decreases the amount available for loans. B/c changes in the reserve requirement have a dramatic impact throughout the banking system, hitting all the banks at once, the fed rarely changes the reserve requirement.

Tighter credit will....

Tighter credit means that there is less money available to lend to consumers. Less money available to lend means less consumer spending, which will slow economic growth, and helps prevent or slow inflation.

When the demand for money exceeds the supply,

interest rates rise, making consumer borrowing more difficult.