Monetary PolicyMonetary Policy is changes the Federal Reserve (the

FED) makes in the money supply.

Definitions'Expansionary Monetary Policy'

An increase in the money supply

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Definitions'Contractionary Monetary Policy’

A decrease in the money supplyEOC study guide

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Monetary Policy

$ Manipulating the money $upply

through the Federal Reserve System Who controls the money supply?

In Plain English: Understanding the Federal Reserve

The Federal Reserve System The Federal Reserve System is the Central

Bank of the United States. In charge of managing the nation’s money

supply and ensuring the health of the banking system

Janet Yellen is Federal Reserve Chairman

Jacob Lew is Secretary of the Treasury

The Fed’s Four Main Responsibilities

1. Formulate and implement the nation’s monetary policy—control the money supply!

2. Supervise and regulate banking institutions and protect consumers

3. Maintain the stability of the financial system

4. Provide certain financial services to the U.S. government, the public, financial institutions, and foreign government institutions

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The Fed's 3 Main Tools of Monetary Policy

1. Open Market Operations

2. Changes in the Discount Rate

3. Changes in Reserve Requirements

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1. Open Market Operations Fed’s primary monetary policy tool

Determines whether government treasury securities (bonds) should be bought or sold

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1. Open Market Operations Cont. Expansionary Monetary Policy:

Buying treasury securities:

increases growth by putting more money in circulation (Fed pays for securities putting $ into the reserves, banks can lend more $)

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1. Open Market Operations Cont. Contractionary Monetary Policy:

Selling treasury securities:

slows growth by taking money out of circulation (Fed sells securities back to banks, money moves from banks to Fed, decreasing the supply of excess reserves available to lend)

Investopedia video on OMOs

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2. Discount Rate

The amount interest the federal reserve will charge to loan money to banks Known as the lender of last resort Currently the rate is 1% Investopedia video clip

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2. Discount Rate Cont.

Expansionary Monetary Policy: If the Fed decreases the rate, it is

cheaper for banks to borrow money

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Contractionary Monetary Policy:If the Fed raises the rate, it is more

expensive for banks to borrow money

3. Reserve Requirements

Reserve requirements are funds (cash, etc.) that banks must keep in its vaults Currently it is 10% of demand deposits

If you deposit $1000, $900 is available to lend ($100 left in reserves)

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http://www.federalreserve.gov/monetarypolicy/reservereq.htm#table1

3. Reserve Requirements Cont.

Expansionary Monetary Policy: If the Fed decreases the reserve requirements,

it increases the supply of loanable funds and increases the growth of the money supply

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Contractionary Monetary Policy:If the Fed raises the reserve

requirements, it decreases the supply of loanable funds and slows the growth of the money supply

Problems in Controlling the Money Supply

The Fed’s control of the money supply is not precise The Fed does not control the amount of

money that households choose to hold as deposits in banks.

The Fed does not control the amount of money that bankers choose to lend.

Summary Investopedia Video clip