Question

Suppose the Fed decides it needs to pursue an expansionary policy. Assume people hold no cash, the reserve requirement is 50 percent, and there are no excess reserves. Show how the Fed would increase the money supply by $1 million through open market operations. Instructions: Enter numeric responses as whole numbers. Because the current money multiplier is , the Fed would $ worth of bonds, the monetary base and so increasing the money supply by $1 million.

Answer 1

Answer:

Because the current money multiplier is 2, the Fed would BUY $500,000 worth of bonds, INCREASING the monetary base and so increasing the money supply by $1 million.

Explanation:

if the Fed wants to increase the money supply by $1 million, then it would need to purchase US securities worth $500,000. The formulas used to calculate the impact of the Fed's operations are:

increase in money supply = additional funds x money multiplier

• money multiplier = 1 / reserve ratio = 1 / 50% =  2
• desired increase in money supply = $1 million

$1,000,000 = additional funds x 2

additional funds = $1,000,000 / 2 = $500,000