Explain whether each of the following events increases or...

Explain whether each of the following events increases or decreases the money supply. a. The Fed buys bonds in open-market operations. b. The Fed reduces the reserve requirement. c. The Fed increases the interest rate it pays on reserves. d. Citibank repays a loan it had previously taken from the Fed. e. After a rash of pick-pocketing, people decide to hold less currency. f. Fearful of bank runs, bankers decide to hold more excess reserves. g. The FOMC increases its target for the federal funds rate.

Explain whether each of the following events increases or decreases the money supply.
a. The Fed buys bonds in open-market operations.
b. The Fed reduces the reserve requirement.
c. The Fed increases the interest rate it pays on reserves.
d. Citibank repays a loan it had previously taken from the Fed.
e. After a rash of pick-pocketing, people decide to hold less currency.
f. Fearful of bank runs, bankers decide to hold more excess reserves.
g. The FOMC increases its target for the federal funds rate.

Key Concepts

Open Market Operations

This concept refers to the buying and selling of government bonds by the central bank in the open market to regulate the money supply. When the central bank purchases bonds, it injects money into the banking system by crediting bank reserves, thus increasing the money supply, while selling bonds has the opposite effect.

Reserve Requirements

Reserve requirements are regulatory mandates that determine the minimum fraction of customer deposits and notes that each bank must hold as reserves rather than lend out. Lowering the reserve requirement allows banks to lend more money, which increases the money supply, whereas raising it restricts lending and reduces the money supply.

Interest on Reserves

This concept involves the rate that the central bank pays on reserves held by commercial banks. An increase in the interest rate paid on reserves can encourage banks to hold onto their reserves rather than lending them out, which tends to decrease the money supply by reducing the funds available for loans.

Central Bank Lending and Repayments

This covers the transactions between commercial banks and the central bank, such as loans provided to banks and repayments of these loans. When a bank repays a loan to the central bank, it reduces its reserves, which contracts the money supply as fewer funds are available for lending and spending.

Currency Holding Preferences

This concept addresses the public's choice between holding physical currency and depositing funds in banks. Holding less currency and keeping more funds in bank deposits can increase the money multiplier effect, as banks can use a larger base of deposits for lending, thereby potentially increasing the overall money supply.

Excess Reserves

Excess reserves are the funds that banks hold over and above the required minimum reserves. When banks choose to hold more excess reserves instead of lending them out, the potential for creating new money through the lending process is reduced, leading to a decrease in the money supply.

Federal Funds Rate Target

The federal funds rate is the interest rate at which banks lend reserves to each other overnight, and it is influenced by the central bank’s target rate as part of its monetary policy. An increase in the federal funds rate target generally makes borrowing more expensive, discouraging lending and reducing the money supply.

Transcript

00:01 Here we're taking a look at the monetary system, specifically money supply, and we're looking at a variety of examples and working to determine whether or not these occurrences increase or decrease the money supply.

00:13 Let's go ahead and start with a.

00:15 Let's suppose that the federal reserve buys bonds.

00:18 So in this case, our money supply is going to increase.

00:23 Now, it's going to increase because the fed buying these bonds, it must pay some value to whomever they're purchased from.

00:31 In which case some money is released into the system.

00:34 So the money supply is increased.

00:36 Now, part b, let's suppose that the reserve requirement is reduced.

00:40 In this case, banks are required to hold less money in reserves, and thus they're able to lend more.

00:46 So because they're able to lend more, we'll see an increase in the money supply.

00:50 Part c, let's suppose that the fed pays higher interest rates on reserves.

00:55 So in this case, we're going to see a decrease in the money supply.

01:03 And we're going to see this decrease because banks are going to have a greater incentive to hold more in reserves because the fed will be paying them a higher interest rate to hold that.

01:12 So whatever money is sitting in these banks ' reserves, they will not be lending and thus the money supply will decrease...

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