Question

Does the Fed use discount lending to keep banks from failing? Explain. How has the role discount lending evolved over time?​

Answer 1

Yes, Fed uses discount lending to keep banks from failing. The Fed buys securities usually treasury notes from members bank. If a bank can't borrow from other banks it can borrow from Fed itself. That's why it is called borrowing the discount window. However most of the banks try to avoid Fed.

The Fed rate is determined by the nation's central bank. It is the percentage of bank's deposit. The Fed acts as lender of last resource that is, when risky business prospects make commercial banks hesitant to extend new loan. The Fed would steps in by lending money to the bank, thus inducing bank to lend more money to the customers.

The Fed's Direct lending capability continues to act as an important safety valve when banks need the most.

The three main tools to change the bank reserves are as follows:-

1) Open-marketing operations

2) A Change in discount rate

3) A change in reserve requirements.

answered by: anonymous