Expansionary Monetary Policy Cause and Effect Chain Problem: Recession

Tools of Expansionary Monetary Policy and usage: Reserve Requirement – decrease (creates more excess reserves that may be loaned out & increases Money Supply)

2. Discount Rate – decrease 2. Discount Rate – decrease. (makes it cheaper for banks to borrow money from the Fed & increase excess reserves & increase the money supply)

3. Open Market Operations – Fed buys bonds from. the public or banks 3. Open Market Operations – Fed buys bonds from the public or banks. This also increases the money supply, creating more excess reserves to lend out.

Does the Fed directly set the Federal Funds Rate? - no, it is the interest rate charged by banks when other banks borrow from them.

How does the Fed influence the Federal Funds Rate for Expansionionary Monetary Policy (fighting recession)? It buys government securities (mostly bonds), which increases the money supply. As such, banks have more excess reserves to lend and will be able to lend them out at lower interest rates.

Money Market i% MS MS1 i   i1 MD Q1 Q Q MS .: i%

AD/AS LRAS PL SRAS  PLf  PLe  AD1 AD Ye YF GDPR Because the i% decreased due to the expansion of the Money Supply, C and IG spending (the interest sensitive parts of AD), increased as borrowing money became less expensive, Therefore, AD ↑ , GDPR ↑, & PL ↑ .: u%↓ & incomes ↑.

Market for U.S. Dollar £/$ S e e1 D D1 Q q q1 Demand for the $ because foreign investors dislike the lower i% in the U.S. and don’t purchase U.S. investments like govt securities. Therefore, the $ depreciates relative to the £

Net Export Effect of Expansionary Monetary Policy: 1. The U. S Net Export Effect of Expansionary Monetary Policy: 1. The U.S. $ Depreciated. 2. U.S. Exports increase because American products are now less expensive for foreigners. 3. U.S. Imports decrease as Americans have less buying power for foreign products. 4. Therefore Xn (Exports minus Imports) goes up. 5. As such, since Xn is part of AD/GDPr, AD/GDPr go up slightly, strengthening Expansionary Monetary Policy.