The US Monetary System: The Federal Reserve System

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“The Federal Reserve System, or Fed, is the most important regulatory agency in the U.S. monetary system” (333). The monetary policies used by the Federal Reserve are designed to control the rate of growth and size of the money supply, which affects interest rates. “When the Fed takes actions, it is trying to influence investment, consumption and total aggregate expenditures” (352).
The Federal Reserve system can use either an expansionary or contractionary policy in their efforts to keep the macroeconomy as stable as possible. The four tools used to help with these efforts are: “open market operations, changes in the reserve ratio, changes in the interest rates paid on reserves, and discount rate changes” (352).
When they initiate an …show more content…

The indirect benefits result from the increased amount money people and firms place in savings accounts. The increased funds that financial institutions now have resulted in an excess amount of reserves that banks are willing to lend for further investment. With lower interest rates, businesses and individuals will be more willing to seek funds for investment and the purchase of durable goods. “The increased loans generate a rise in aggregate demand” (354). The added purchases have a trickle effect on the economy with “more people being involved in more spending” …show more content…

The first is called “transactions demand, which is holding money as a medium of exchange to make payments” (350). In other words, people hold money to make expected purchases of goods and services between paydays. The benefit of holding funds is its convenience. It is convenient to have the funds needed for purchases instead of having to cash in nonmoney assets for every purchase they want to make. The convenience comes at a price, however, and that is lost interest earnings.
“People also hold money to meet unplanned or unexpected purchase and emergencies which is called precautionary demand” (350). Interest rates affect the amount of money people wish to hold in these funds. “The higher the interest rate, the lower the precautionary money balances become” (350). “The last influence is that people choose to hold money as a store of value instead of other assets, such as corporate bonds and stocks, for two reasons: its liquidity and the lack of risk. This leads to the Asset Demand for money”

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