Unit IV - Monetary Policy

1. Reserve Requirement
• Only small % of your bank is safe.
• ER is loaned out - "Fractional Reserve Banking"
• FED sets the ER. 
• When FED increases MS, it increases the amount of money held in bank deposits. 
• Decrease RR
• Banks have less money and more ER.
• Banks create more money by loaning out excess reserves.
• Money supply increases, interest rate decreases, and AD increases.
• Increase RR
• Banks hold more money and less ER.
• Banks create less money.
• Money supply decreases, interest rate increases, and AD decreases. 
2. Discount Rate
• Interest rate that the FED charges commercial banks.
• To increase money supply, FED should lower discount rate (Easy Money policy)
• To decrease money supply, FED should increase discount rate (Tight Money policy)
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3. Open Market Operations
• The FED buys/sells government bonds (securities).
• To increase MS, FED should buy government securities.
• To decrease MS, FED should decrease government securities.

• Expansionary (Easy Money)
• OMO: Buy bonds
• Discount Rate: Decrease
• Reserve Requirement: Decrease
• Loans decrease, AD increases, GDP increases, MS increases, and interest rate decreases.
• Contractionary (Tight Money)
• OMO: Sell bonds
• Discount Rate: Increase
• Reserve Requirement: Increase
• Loans decrease, AD decreases, GDP decreases, MS decreases, and interest rate increases.
• Federal Fund Rate: Where FDIC member banks loan each other overnight funds.
• Prime Rate: Interest rate that banks give to their most credit-worthy customers.