Question

Suppose the Fed wants to appreciate the dollar through currency intervention, but since C (currency) is a component of the monetary base, and the Fed does not want the monetary base or money supply to be affected. It would

sell foreign reserves and purchase dollars.

purchase foreign reserves and sell dollars; then engage in an open market sale of U.S. Government bonds.

purchase foreign reserves and sell dollars.

sell foreign reserves, purchase dollars; then engage in an open market purchase of U.S. Government securities.

Answer 1

If the Fed wants to appreciate the dollar through currency intervention and the Fed does not want to affect the money supply, then the Fed should sell foreign reserves, purchase dollars and then engage in an open market purchase of US govt securities. First, purchase of dollars will reduce supply of dollars, hence it will lead to appreciation of dollar. But, purchase of dollar will also lead to fall in money supply. Then to counter this, Open manrket purchase would lead to purchase of bonds and increase in money supply. Hence the net effect on money supply is zero. So the correct answer is (D).