Question

The effect of changes in the money supply 

The following diagram represents the money market in the United States, which is currently in equilibrium, as indicated by the grey star. 

 Suppose the Federal Reserve (the Fed) announces that it is raising its target interest rate by 50 basis points, or 0.50%. It would achieve this by

 _______  the _______ . Use the green line (triangle symbols) on the preceding graph to illustrate the effects of this policy. Place the black point (plus symbol) on the graph to indicate the new equilibrium interest rate and quantity of money.

 The sequence of events that results in a new equilibrium interest rate, after the Fed makes the change you selected, may be described as follows:

 Because there is _______  money in the financial system, there is an excess _______  money at the initial equilibrium interest rate.

 Individuals and businesses adjust their asset portfolios by _______  bonds. As a result, the price of bonds _______ , and the interest rate _______ . This process continues until the new equilibrium interest rate is achieved.

Answer 1

Fed wants to increase the target interest rate.

When Fed wants to increase the target interest rate, it generally reduces the money supply.

So,

It would achieve this by decreasing the money supply.

Following is the required figure -

As above figure shows,

The sequence of event that results in a new equilibrium interest rate, after the Fed makes the change you selected, may be described as follows -

Because there is less money in the financial system, there is an excess demand for money at the initial equilibrium interest rate.

Individuals and businesses adjust their asset portfolios by selling bonds.

As a result, the price of bonds falls, and the interest rate rises.

This process continues until the new equilibrium interest rate is achieved.