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3 Tools of Monetary Policy

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Submitted By tmartin1995
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3 tools of monetary policy – Control of money supply by Federal Reserve (in circulation)
1) Federal reserve can change the reserve requirement ration ( % of each dollar bank must hold on reserve)
a. To increase money supply in circulation, the Federal Reserve decrease reserve requirement ratio
EX) reserve requirement ratio .10 is 10% you an lower it to .09 or 9%
b. To decrease money supply in circulation the federal reserve increases reserve requirement ratio
EX) If the reserve requirement ratio is 10% raise it to 11%
2) Federal reserve committee ( Federal Open Market Committee) FOMC conducts Open Market Operations OMO (OMO is the buying and selling of government bonds to and from the public)
a. To increase the money supply, Feds FOMC says buy government bonds from the public (Fed writes a check on its own account – means print money added “to” circulation – the banks can give loans & borrowers create additional demand deposits, to create more loans.
b. To decrease the money supply, the Feds FOMC says sell government bonds to the public (Fed will receive the publics (our) checks written against the publics account (your own account) made out to the “Feds” they keep it outside the system.
3) The Discount Rate: Rate Fed charges its member (other banks) banks for loans (Fed is a LAST resort for banks)
a. To increase the money supply, the Fed will lower discount rate, which encourages banks to borrow more reserves from Fed.
i. Bans can then make more loans, which increases the money supply.
b. To reduce the money supply, the fed will raise the discount rate, which discourages banks from borrowing

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