ECONOMICS (CBSE/UGC NET)

Detailed explanation-1: -If the Fed buys bonds in the open market, it increases the money supply in the economy by swapping out bonds in exchange for cash to the general public. Conversely, if the Fed sells bonds, it decreases the money supply by removing cash from the economy in exchange for bonds.

Detailed explanation-2: -When Fed policymakers decide that they want to raise interest rates, the Fed sells government bonds. This sale reduces the price of bonds and raises the interest rate on these bonds. (We can also think of this as the Fed reducing the money supply. This makes money less plentiful and drives up the price of borrowing.)

Detailed explanation-3: -Bonds are particularly sensitive to interest rate changes. When the Fed increases rates, the market prices of existing bonds immediately decline. That’s because new bonds will soon be coming onto the market offering investors higher interest rate payments.

Detailed explanation-4: -The answer is b) M1. If the Fed buys government bonds, M1 will likely NOT increase.