Adam Hoffer West Virginia University

The Money Market and the Feds Choice of Monetary Policy Targets How the Fed Manages the Money Supply: A Quick Review Equilibrium in the Money Market Figure 14-4 The Impact on the Interest Rate When the Fed Increases the Money Supply When the Fed increases the money supply, households and firms will initially hold more money than they want, relative to other financial assets. Households and firms use the money they dont want to hold to buy Treasury bills and make deposits in interest-paying bank accounts. This increase in demand allows banks and sellers of Treasury bills and similar securities to offer lower interest rates. Eventually, interest rates will fall enough that households and firms will be willing to hold the additional money the Fed has created. In the figure, an increase in the money supply from $900 billion to $950 billion causes the money supply curve to shift to the right, from MS 1 to MS 2, and causes the equilibrium interest rate to fall from 4 percent to 3 percent. Describe the Federal Reserves monetary policy targets and explain how expansionary and contractionary monetary policies affect the interest rate LEARNING OBJECTIVE

Demand and Supply in the Loanable Funds Market FIGURE 9-3 The Market for Loanable Funds Saving, Investment, and the Financial System The Market for Loanable Funds The demand for loanable funds is determined by the willingness of firms to borrow money to engage in new investment projects. The supply of loanable funds is determined by the willingness of households to save and by the extent of government saving or dissaving. Equilibrium in the market for loanable funds determines the real interest rate and the quantity of loanable funds exchanged. 9.2 LEARNING OBJECTIVE Discuss the role of the financial system in facilitating long-run economic growth.

4 Banks Loan money, with interest, to make profit 4 Firms Borrow money to fund projects which make the firm profit

Banks

Do not share the information in your packet with any other player (No collusion or black market deals) When a transaction is complete, you must report the transaction to me Round 1 will be complete when no more transactions can be completed (or after 15 minutes)

Introducing the Fed Discount Window Any bank can take a loan from the Fed (me) for a fixed interest rate of 1%

Demand for loanable funds Supply of loanable funds The Discount Window The Fed Monetary Policy MV=PY Classical model with short-run fixed prices

The Loanable Funds Market

Equilibrium in the loanable funds market Cost to banks Opportunity cost Forced Project completion ordering Shifts in equilibrium Various banks requirements (reserves) The effects of monetary policy Alternative Fed Tools

Adam Hoffer