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ch16 Mish11ge Embfm
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
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Figure 1 Equilibrium in the Market
for Reserves
Federal
Funds Rate
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 R2s R1s R2s
iff1 1
iff2 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 R s2
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.
R2d
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 ff1 1 i ff2 = i or2 R2d
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 Reserves Operating
Procedures Limit Fluctuations in the Federal Funds
Rate
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Figure 6 How the Federal Reserves Operating
Procedures Limit Fluctuations in the Federal Funds
Rate
Federal
Funds Rate Rd d* Rd
R
= id
i ff Rs
iff= i or
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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