Professional Documents
Culture Documents
Tools of Monetary Policy
Tools of Monetary Policy
Tools of
Monetary Policy
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Learning Objectives
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Learning Objectives
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The Market For Reserves and the
Federal Funds Rate
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Demand in the Market for Reserves
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Supply in the Market for Reserves
iff1
ior Rd
NBR Quantity of
Reserves, R
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How Changes in the Tools of Monetary
Policy Affect the Federal Funds Rate
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How Changes in the Tools of Monetary
Policy Affect the Federal Funds Rate
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How Changes in the Tools of Monetary
Policy Affect the Federal Funds Rate
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How Changes in the Tools of Monetary
Policy Affect the Federal Funds Rate
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Figure 2 Response to an Open Market Operation
Federal Federal
Funds Rate Funds Rate
id id
R1s R 2s R1s R 2s
i ff1 1
i ff2 2
1 2
ior R1d iff1 iff2 ior R1d
Step 1. An open market purchase shifts the Step 1. An open market purchase shifts the supply
supply curve to the right … curve to the right …
Step 2. causing the federal funds rate to fall. Step 2. but the federal funds rate cannot fall below
the interest rate paid on reserves.
(a) Supply curve initially intersects demand (b) Supply curve initially intersects
curve in its downward-sloping section demand curve in its flat section
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Figure 3 Response to a Change in
the Discount Rate
Federal Federal
Funds Rate Funds Rate
id1 R1s
id2 R2s 1
1 iff1 id1 R s1
iff1
2
iff2 id2 Rs2
ior R d1 BR1 R d1
ior
BR2
Step 1. Lowering the discount rate Step 1. Lowering the discount rate
shifts the supply curve down… shifts the supply curve down…
Step 2. but does not lower the Step 2. and lowers the federal
federal funds rate. funds rate.
(a) No discount lending (BR = 0) (b) Some discount lending (BR > 0)
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Figure 4 Response to a Change in
Required Reserves
Federal
Funds Rate
id R1s
i ff1 1
Step 2. and the federal funds rate rises.
R 2d
ior
R1d
NBR Quantity of
Reserves, R
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Figure 5 Response to a Change in
the Interest Rate on Reserves
Federal Federal
Funds Rate Funds Rate
id Rs id Rs
2
i 1
1 i ff2 i or2 R 2d
ff
i or2 R 2d
i ff1 i or1 R1d
i or1 R1d 1
Step 1. A rise in the interest rate on reserves Step 1. A rise in the interest rate on
1
1
from i or to i or2 ... reserves from i or to i or2 ...
Step 2. leaves the federal funds rate unchanged. Step 2. raises the federal funds
rate to i ff2 i or2 .
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Application: How the Federal Reserve’s Operating
Procedures Limit Fluctuations in the Federal Funds
Rate
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Figure 6 How the Federal Reserve’s Operating
Procedures Limit Fluctuations in the Federal Funds
Rate
Federal
Funds Rate
Rd d* R d
R
iff id Rs
iff ior
NBR* Quantity of
Reserves, R
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Conventional Monetary Policy Tools
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Open Market Operations
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Discount Policy and the Lender of
Last Resort
• Discount window
• Primary credit: standing lending facility
– Lombard facility
• Secondary credit
• Seasonal credit
• Lender of last resort to prevent financial
panics
– Creates moral hazard problem
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Reserve Requirements
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Relative Advantages of the Different
Monetary Policy Tools
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On the Failure of Conventional Monetary
Policy Tools in a Financial Panic
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Nonconventional Monetary Policy
Tools During the Global Financial Crisis
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Nonconventional Monetary Policy
Tools During the Global Financial Crisis
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Figure 7 The Expansion of the
Federal Balance Sheet, 2007-2014
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Monetary Policy Tools of the
European Central Bank
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Monetary Policy Tools of the
European Central Bank
• Reserve Requirements
– 2% of the total amount of checking deposits and
other short-term deposits
– Pays interest on those deposits so cost of
complying is low
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