Question

You are given the following information about the market for reserves. The current federal funds rate is 1.5%, the discount rate is 1.75%, the interest rate paid on reserves is 1.25%, and the Fed owns $350 billion in government securities.

Are there any discount loans outstanding? Why or why not?

Suppose the increase in economic activity meant that banks started to increase their lending to businesses. Banks are making loans rather than holding extra cash. Select all that apply. Question options:

___ The demand for reserves would increase.

___ The demand for reserves would decrease.

___ The supply of reserves would increase.

___ The supply of reserves would not change.

___ The equilibrium federal funds rate would increase.

___ The equilibrium federal funds rate would decrease.

___ The equilibrium federal funds rate would remain unchanged.

Suppose the Fed wanted to sterilize (negate) the impact of the change in question 2 on the federal funds rate. Would they need to conduct an open market sale or purchase to return the equilibrium federal funds rate to 1.5%? What would happen to the monetary base if they did the open market operation you said?

Answer 1

Yes there are discounted loans outstanding in terms of government securities of $350 billion because banks has taken loan from federal reserve by selling government securities of worth $350 billion.

The demand for reserves would decrease.

The equilibrium federal funds rate would increase.

Fed would conduct open market purchase of government securities in order to increase the money supply in the market and this increased money supply will force federal funds rate to return to 1.5%

Money base will increase means money supply will get increased in the market due to open market operations of purchase of government securities.