1. Monetary Policy Chapter 15 Section 2

2. What is monetary policy? The Fed can expand or contract the money supply by influencing the cost of credit What does that mean in plain terms? INTEREST RATES

3. Fed Funds Rate  FDIC member banks loan each other overnight funds in order to balance deposit accounts each day.  The interest rate they use to loan each other is the FFR.  The FED targets this rate by suggesting an increase or decrease  Currently at.25%

4. Discount Rate  FDIC banks may borrow short term loans directly from the FED.  This is the discount window and is set above the FFR (currently.50%).  Banks do not like to use the window—the FED is the “last resort”  FOMC sets the Discount Rate

5. Prime Rate  Interest rate that banks charge their most “credit worthy” borrowers  Historically, the Prime Rate has been 3% higher than the FFR So, what is the Prime Rate?  3.25%

6. The Savings/Reserve Multiplier  Required reserves are to give the FED control over the amount of lending that banks can create. (helps the FED control credit and money creation)

7. Reserve Multiplier example  Assume Bank A receives a deposit of $1,000. Bank A has a required reserve (rr) of 10%.  They must put $100 in the vault but can lend out $900.  Someone borrows the $900, uses it and it ends up in Bank B.  Bank B must now put $90 in the vault but can lend out $810 to a new person

8. Easy Money Policy  The Fed wants the money supply to grow  Lower interest rates = people will borrow more

9. Tight Money Policy  The Fed wants to get money out of the system  Increase interest rates = people borrow less  Why take money out? INFLATION