Using table 6.3, the federal funds rate has increased from 1.5% to 2.0%. Which o

Question

Using table 6.3, the federal funds rate has increased from 1.5% to 2.0%. Which of the following actions by the Federal Reserve could have caused this rise in the federal funds rate?

Select one:

A. A decrease in the discount rate

B. An open-market sale of government bonds

C. Issuing of more bonds

D. Lowering of the required reserve ratio

Cash held by the public: Discount rate: Total reserves: Unemployment rate: Required reserve ratio: Rate of inflation: Transactions deposits: $400 million 5% $1,000 million 7.6% 20% 1.1% $5,000 million

Explanation / Answer

Option - B

An Open Market sale of government bonds

Here, there is movement of cash circulation from public, banks to government. Hence there is general decrease in supply of money and as such new equilibrium for supply and demand for money creates an increased interest rates. Thus Fed fund rate will increase.

In all other options, infact .......... there will be decrease in Fed rate. For example in (D) when required reserve ratio is lowered, it means banks capability to lend is increased. Thus supply of money increases and interest rate is lowered.

(C) Issue of bonds is exact reverse of sale of bonds in (A).

(B) Lowering of discount rate is similar to lowering of Interest rates - so this absolutely wrong one.

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