Question

2. The Fed has three different tools it can use to carry out its monetary policy goals. What are these policy goals? What are these tools? Explain how each tool works.

Answer 1

Answer - The three monetary policy tools which arr used by the FED are -

1 - Bank rate or discount rate

2 - reserve requirement

3 - open market operations

1- Bank rate - The rate at which the Fed discounts the bills.of the commercial banks is called the bank rate. It is also the rate at which the fed might lend money to the commercial banks. When the supply of money has to be decreased the feb increases the bank rate and vice a versa.

2 - Reserve requirement - The commercial banks have to keep a minimum amount of reserve with the central bank. This rate is predecided by the central bank. If the money supply has to be increased the feb will decrease the reserve rate so that more money can be supplied and vice a versa.

3 - Open market operations- This is the method in which the fed purchases or sells the goverment securities in the open market through the stock exchanges. If the money supply has to be increased the fed will.purchase the securities of the govt from the public and give them money which will increase the supply and vice a versa.

These tools are also called the Quantitative tools of money supply control.