Question 1

What is monetary policy?

Accepted Answer

The actions by the Federal Reserve to control the money supply and achieve goals, such as price stability

(contrast with fiscal policy, which is actions by Congress)

Question 2

What are open-market operations?

Accepted Answer

When the Fed buys/sells bonds to private banks

(most important tool of monetary policy; buying = bigger MS, sell = smaller MS)

Question 3

What happens when the central bank conducts an open-market purchase?

Accepted Answer

Reserves increase, thus increasing the monetary base

Question 4

Why is the effect of an open-market purchase on the money supply greater than the effect on the monetary base?

Accepted Answer

The money multiplier effect

(open-market purchases give money to banks, increasing their reserves; the money multiplier multiplies that increase)

Question 5

What is the overnight rate (federal funds rate)?

Accepted Answer

The interest rate at which banks lend and borrow money from each other overnight

(overnight because the debt must be repaid by the next day)

Question 6

How can central banks influence the nominal interest rate in the short run?

Accepted Answer

By changing the money supply, which in turn will affect investment and consumption

Question 7

What are expansionary or contractionary monetary policies used for?

Accepted Answer

To restore full employment when the economy is in a recessionary or inflationary output gap.

Question 8

What are the lags to monetary policy caused by?

Accepted Answer

The time it takes to recognize a problem in the economy and the time it takes the economy to adjust to the policy action

Question 9

What is the discount ratio?

Accepted Answer

The interest rate the Fed charges banks to borrow money

Question 10

How would the Fed use monetary policy to deal with an inflationary gap?

Accepted Answer

The Fed would sell securities, raise the reserve ratio, and/or increase the discount ratio

4.6 Monetary Policy, AP Macroeconomics Flashcards