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Brief Principles of Macroeconomics...

8th Edition
N. Gregory Mankiw
ISBN: 9781337091985

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BuyFindarrow_forward

Brief Principles of Macroeconomics...

8th Edition
N. Gregory Mankiw
ISBN: 9781337091985
Textbook Problem

Which of the following actions by the Fed would reduce the money supply?

a. an open-market purchase of government bonds

b. a reduction in banks’ reserve requirements

c. an increase in the interest rate paid on reserves

d. a decrease in the discount rate on Fed lending

To determine

How the Fed decreases the money supply.

Explanation

The Federal Reserve is the central bank of the US economy, and it is usually known as the Fed. The Fed has the responsibility of keeping the economy controlled from fluctuations, and it has to control the money supply of the economy through its monetary policies. The controlling of the money supply is one of the primary responsibilities of the Fed.

Option (c):

Increasing the interest rates: When the Fed increases the interest rates on the funds held by the commercial banks, the commercial banks will have more incentive to hold up the funds and reduce the loans; this reduces the money supply in the economy. Thus, optionc’ is correct.

Option (a):

Purchasing of bonds: The purchase of government bonds from the public generates new currency in the economy. Likewise, the sale of government bonds to the public retires the excess money from the economy, which helps to reduce the supply of money in the economy. Thus, the purchasing of bonds increases the money supply in the economy. Therefore, optiona’ is incorrect...

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