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Monetary Policy Paper

1230 Words5 Pages

The monetary policy is the measures of the Fed, that controls short-term interest rates and affects the availability and cost of money and credit in the economy. Maximum employment, stable prices, and moderate long-term interest rates are the main goals of this policy, which are defined by the Board of the Governors. So, the Fed has a policy toolkit to achieve its purpose and to regulate the economic condition.
The term open market oprations mean that central banks buy and sell bonds to regulate the money supply in the economy. One of the Fed’s goals is to limit infilation during periods of healthy econmic growth. By reducing the supply of funds, the bank puts the brakes on the economy if it is expanding quickly. When the economy is more sluggish, …show more content…

The discount rate is defined as the interest rate on short-term loans from the Fed to commercial banks. Why would a commercial bank want to borrow money from the Fed, wouldn’t a bank prefer to borrow from another bank in the economy. But the Federal Reserve is known as the lender of last resort. If a commercial bank, for example, at the end of a given day does not have enough to meet its reserve requirement, it could be in violation of a federal law. Typically a bank will not violate the law. It will simply borrow someof the money it needs, from the Fed, in oder to meet its required reserve ratio. So, if the Fed lowers the ineterest rate that it charges the banks for the short-term loans. This would make it cheaper for the commercial banks to borrow funds from the Fed. So we would see the supply of money in the banking sytem increase which causes the equilibrium interest rate to dercease. Reducing the discount rate makes it cheaper for banks to borrow money from the federal reserve, which makes a cheaper for households to borrow money from the banks. So, the discount rate again is the interest rate charged by the Fed for loans to commercial banks. On the other side, if the Fed wish to decrease the money supply, they could simply raise the discount rate. Now, this would obviously make it more expensive for commercial banks to borrow from the Fed. Therefore, the supply of money would be less, fewer commercial banks would be willing to make risky loans, because it would cost them more to borrow money to make up their required reserves from the

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