ECONOMICS (CBSE/UGC NET)

Detailed explanation-1: -Manipulating Interest Rates The first tool used by the Fed, as well as central banks around the world, is the manipulation of short-term interest rates. Put simply, this practice involves raising/lowering interest rates to slow/spur economic activity and control inflation.

Detailed explanation-2: -Consider, first, why the Fed buys bonds to boost growth and inflation. Bond-buying, or “quantitative easing” (QE), works via the so-called credit channel. That is, it encourages banks to lend more. When the Fed buys bonds from banks, their cash reserves at the Fed go up.

Detailed explanation-3: -How can the Fed stimulate the economy? If the Fed wants to stimulate the economy (increase aggregate demand), it will increase the money supply by buying government bonds, lowering the reserve ration, and/or raising the discount rate.

Detailed explanation-4: -The Fed purchased longer-term securities on the open market, including U.S. Treasuries and mortgage-backed bonds. These investments in securities (typically in the fixed income market) add liquidity and reduce borrowing costs to encourage economic activity through more lending and investment.