Macro-unit... Flashcards
If the fed purchases bonds in the open market this is the expected effect on bond prices
An increase
In the short run if the money supply increases we would expect the nominal interest rates to…
Fall
Prime interest rate
reference rate for a wide range of interest rates on short term loans to businesses and individuals, this involves higher and riskier loans and is therefore higher than the federal funds rate
Federal funds interest rate
Interest rate that banks charge one another for overnight loans of reserves
Quantative easing
The fed’s response to the zero lower bound problem. The fed purchases bonds in order to increase reserves in the baking system. It is not intended to lower interest rates. Quantative easing can also involve the purchase of GSEs
Pros of monetary policy
- Flexibility and political acceptability
- Stabilization tool
Cons of monetary policy
- Recognition and operation lags complicate timing
- Liquidity trap limits the effectiveness of expansionary policy
What does the fed do under expansionary policy?
They purchase securities from commercial banks and the public to inject reserves into the system. This lowers the federal funds rate and interest rates (including the prime rate).
The transaction demand for money is a vertical line because..
transaction demand does not vary with changes in nominal interest rates
What does the fed do under restrictive policy?
The fed sells securities via open market transactions. This removes reserves from the system and interest rates rise.
Zero lower bound problem
The constraint placed on the ability of a central bank to stimulate the economy through lower interest rates because nominal interest rates cannot go below zero
How does monetary policy affect GDP and price level?
Policy decisions affect commercial bank, which affect the money supply, which which changes the interest rate, which affects investment, which affects aggregate demand, which then affects the equilibrium real GDP and price level
Discount Rate
The interest rate that the federal reserve banks charge on the loans they make to commercial banks and thrifts
Four instruments of monetary policy
1) open market operation
2) reserve ratio
3) discount rate
4) interest on reserves
Goal of monetary policy
help the economy achieve price stability, full employment and economic growth
What does the balance sheet of the federal reserve list?
Collective assets and liabilities of the 12 federal banks
Assets
Treasury notes, bills and bonds
Liabilities
Reserves of commercial banks, treasury deposits, and federal reserve notes
Interest rates and bond prices are
Inversely related
Total demand for money=
transaction demand(varies directly with nominal GDP)+asset demand(varies inversely with interest rate)
FOMC
Federal Open Market Committee
- aids the board of governors in conducting monetary policy
- 7 members of the board of governors, the president of the NY federal reserve bank and 4 other presidents on a 1 year rotating basis
How is money created?
By making loans (convert IOUs (not money) into checkable deposits (money) and money is later destroyed when lenders repay bank loans
When banks buy securities
What does the ability to loan depend on?
Excess reserves
What does the bank use excess reserves for besides loans?
Buy bonds from the public