Question

In the current situation of abundant excess reserves in the Federal funds market, the Fed raises interest rates by

A		raising the interest on reserves
B		raising the discount rate
C		by lowering the reserve requirement
D		engaging in Open Market Operations (OMO).

Answer 1

In the current situation of abundant excess reserves in the Federal funds market, the Fed raises interest rates by engaging in Open Market Operations (OMO).

If the Federal Reserve wants to raise the interest rate in the Federal Funds Market, then it will sell securities to its member banks. By taking money from the banks the Federal Reserve will reduce the amount of reserves they have thereby making it difficult for the banks to lend and meet reserve requirement simultaneously. As a result, the banks will increase Federal Funds Rate as they have less money to lend to other banks.