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: -If the Fed, for example, buys or borrows Treasury bills from commercial banks, the central bank will add cash to the accounts, called reserves, that banks are required keep with it. That expands the money supply.

Detailed explanation-3: -When the Fed buys bonds from banks, their cash reserves at the Fed go up. As that liquidity cushion expands, banks have greater incentive to lend. Cheaper and more abundant credit then encourages more spending and investment. But banks don’t have to lend more.

Detailed explanation-4: -To increase the (growth of the) money supply, the Fed could either buy bonds, lower the reserve requirement ratio, or lower the discount rate. To decrease the (growth of the) money supply, the Fed could either sell bonds, raise the reserve requirement ratio, or raise the discount rate. 24.

Detailed explanation-5: -Key Takeaways When the Federal Reserve buys bonds, bond prices go up, which in turn reduces interest rates. Open market purchases increase the money supply, which makes money less valuable and reduces the interest rate in the money market.