Chapter 15

Suppose that banks want to maintain a reserve ratio of 1/10. If the Fed increases reserves by $5,000 by how much must the money supply increase?

$50,000 --> the money multiplier is 1/RR, or 10. So $5,000 x 10 = $50,000

Which is one of the three major tools of monetary policy covered in the textbook?

1. Open market operations - the buying and selling of U.S. government bonds on the open market 2. Discount rate lending and the term auction - Federal Reserve lending to banks and other financial institutions 3. Paying interest on reserves held by banks at the Fed

How long is the term for a Fed chairperson?

4 years

The Federal Reserve does all of these activities EXCEPT:

Calculate labor market statistics, such as the unemployment rate. --> Statistics like these are calculated by the Bureau of Labor Statistics

What was the long-run impact of the Federal Reserve policies that stimulated the economy and helped Nixon win reelection?

Inflation was too high for the rest of the 1970s. --> This is not an example of the Federal Reserve at its best.

_____ are the main asset of fractional reserve banks.

Loans --> So the value of a bank depends on how willing and able borrowers are to repay their loans.

The Federal Reserve does all of these activities EXCEPT:

Set marginal tax rates --> congress sets tax rates

Of the following events that would occur as a part of the Fed using monetary policy to decrease aggregate demand, which would occur third?

Short term interest rates increases --> Selling bonds in open market operations would decrease the money supply, which raises short-term interest rates, causing less borrowing and investing.

The world's largest bank customer is:

The U.S. Treasury --> has more income and borrowers than any other bank customer

Which is NOT one of the three major tools of monetary policy covered in the textbook?

The use of funds to aid banks through the Troubled Asset Relief Program (TARP) --> TARP was enacted by Congress, not the Federal Reserve.

What is one of the reasons that banks keep their accounts at the federal Reserve?

They want a safe place to hold their money --> some banks are required by law to hold accounts with the Federal Reserve

The discount rate is the interest rate ____ pay when they borrow directly from the Fed

banks

The reserve ratio is the ratio of reserves to ______.

deposits

The Fed's actions do not change aggregate demand by any guaranteed amount, because it is not known:

exactly how much M1 and M2 will change in response to a change in the monetary base. --> if they change a lot, aggregate demand will change a lot, and vice versa.

Under _____ reserve banking, banks hold only a small portion of deposits in reserve, and they lend the rest.

fractional

The money multiplier is the amount the money supply expends with each dollar in _____ in reserves.

increase

Buying bonds in an open market operation would:

increase aggregate demand --> more borrowing and investing means greater aggregate demand

Change in ___ supply = change in reserves x money multiplier

money

The interest rate banks pay when they borrow directly from the Federal Reserve is:

the discount rate -->discount window borrowing tends to be used for short-run "tide-me-overs" rather than for long-run monetary policy decisions.

What will the Fed try to predict and monitor in order to estimate the effect of its actions on aggregate demand?

whether businesses who borrow will hold the money as a precaution against bad times --> if businesses borrow but do not use that money to buy capital or hire workers, it may not stimulate the economy much.

∆Reserves x MM = ________

∆MS --> The change in the money supply caused by a change in reserves equals the amount of the change in reserves times the money multiplier.

When the Federal Reserve changes the money supply by changing reserves, which formula can be used to calculate the change in the money supply?

∆MS = ∆Reserves x MM --> the change in the money supply caused by a change in reserves equals the amount of the change in reserves times the money multiplier.

A solvency crisis occurs when:

--> banks begin to have liabilities in excess of the value of their assets --> banks become insolvent

Moral hazard occurs when:

banks and other financial institutions take on too much risk, hoping that the Fed and regulators will later bail them out. When individuals or institutions are insured, they tend to take on too much risk

One problem with discount window lending that does NOT apply to the term auction facility is:

banks may not borrow for fear of admitting to the market that they are in a weak position. --> The Fed made it clear to banks that there would be no stigma associated with using the term auction facility

A solvency crisis occurs when banks become _____

insolvent