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Chapter 16: Q.23 - Problems (page 370)

Consider figure 16-7. Discuss a specific monetary policy action that Fed's Trading Desk could implement in order to induce the effects traced out by this figure.

Short Answer

Expert verified

The figure depicting final increase in Aggregate Demand can be done by buying securities in Federal open market operations.

Step by step solution

01

Aggregate Demand Concept 

Aggregate Demand includes the sum total value of all final commodities & services, which are planned to be bought by all the sectors of an economy.

  • AD is positive related to level of money supply in the economy. Higher money supply means more AD & lower money supply means less AD
02

FOMC Concept

Federal Open Market Operations means buying & selling of government securities in open market. It is used as a monetary (quantitative) tool to regulate Aggregate Demand

  • Central bank buys securities (giving commercial banks & public cash) - to increase money supply in the economy. It decreases the interest rate and increases investment demand, the Aggregate Demand further & shifts it rightwards.

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Most popular questions from this chapter

Assuming that the Fed judges inflation to be the most significant problem in the economy and that it wishes to employ all of its policy instruments except interest on reserves, what should the Fed do with its policy tools?

Why might the fact that private economic forecasters compete to sell their services help to constrain behavioural tendencies for too much optimism in projections of real GDP growth? Explain your reasoning.

Suppose that each 0.1percentage point decrease in the equilibrium interest rate induces a \(10billion increase in real planned investment spending by businesses. In addition, the investment multiplier is equal to 5, and the money multiplier is equal to 4. Furthermore, every \)20billion increase in money supply brings about 0.1percentage point reduction in the equilibrium interest rate. Use this information to answer the following questions under the assumption that all other things are equal.

a. How much must real planned investment increase if the Federal Reserve desires to bring about a $100billion increase in equilibrium real GDP ?

b. How much must he money supply change for the Fed to induce the change in real planned investment calculated in part (a) ?

c. What dollar amount of open market operations must the Fed undertake to bring about the money supply change calculated in part (b) ?

Imagine working at the Trading Desk at the New York Fed. Explain whether you would conduct open market purchases or sales in response to each of the following events. Justify your recommendation.

a. The latest FOMC Directive calls for an increase in the target value of the federal funds rate.

b. For a reason unrelated to monetary policy, the Fed's Board of Governors has decided to raise the differential between the discount rate and the federal funds rate. Nevertheless, the FOMC Directive calls for maintaining the present federal funds rate target.

Evaluate how expansionary and contractionary monetary policy actions affect equilibrium real GDP and the price level in the short run.
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