Question

a) How does the open market operations increase the number of dollars in circulation?

Answer 1

Open market operations refer to the buying and selling of government securities in the open market so as to expand or contract the amount of money in the banking system. Securities purchase injects money into the banking system and stimulate growth, while sale of securities contract the economy.

To increase the money supply in the market, the FOMC purchases securities from banks. The funds that the banks acquire from the sale are used as loans to individuals and businesses. Hence, more money is available in the market for lending, and the rates on these loans become lower, which causes more borrowers to access cheaper capital. This thus stimulates the overall economy, and vice versa