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Macroeconomic Principles and Policy

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1. Describe 3 ways in which the federal reserve can change the money supply.
2. If the federal reserve is going to adjust all of these tools during an economy that is growing too quickly, what changes would they make?
3. What changes, if any, to the current condition of these tools would you make at the next meeting of the federal reserve? Explain why and the benefits/drawbacks of this strategy.

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The Federal Reserve uses open market operations, changes in the the reserve requirement, and changes in the discount rate to change the money supply. Open market operations are the primary tool of the Federal Reserve, and is quite powerful. This is what the Federal Reserve actually does when it announces a new target for its federal funds rate. The federal funds rate is the interest rate banks charge one another in return for a loan of reserves. If the supply of reserves is reduced because the Federal Reserve has sold bonds, that interest rate is likely to increase. If the supply of reserves is increased because the Federal Reserve has purchased bonds, that interest rate is likely to decrease.

During times of economic growth, the Fed must take action to avoid rapid inflation. By reducing the money supply it effectively raises ...

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