Question

Explain in detail the 3 primary tools of Monetary Policy the Federal Reserve uses to change the money supply and interest rates in the economy and Which tool is the most important? Explain why.

Answer 1

The three primary tools will be:

OMO: it is buying and selling of treasury securities between the FED and the banks in open markets. It is the most important tool to control money supply. Since, increasing rates would curtail the supply of money .

2. Reserve requirement: banks must keep.a certain percentage of deposit as reserve .Increasing them will reduce money supply.

3. Discount rate: it is interest rate charged by FED to banks for shirt term borrowing .