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Chapter 10: Problem 3

The Fed conducts an open market sale. Does the money for which it sells the government securities stay in the economy? Explain your answer.

Short Answer

Expert verified
No, the money for which the Fed sells government securities does not stay in the economy. Instead, it is held within the Federal Reserve System and acts as a tool for the Fed to manage and regulate the economy's money supply and interest rates.

Step by step solution

01

Understand Open Market Operations

Open Market Operations refer to the purchase and sale of government securities in the open market by the Central Bank to regulate the volume of money in circulation. When the Fed conducts an open market sale, it essentially sells government securities, which are bought by commercial banks or private individuals.
02

Impact on Money Supply

When the Fed sells government securities, the buyers pay for them. This transaction results in a reduction of the reserve balances of banks or cash holdings of individuals, thereby reducing the overall money supply in the economy. This is because the money used to purchase these securities is transferred to the Federal Reserve.
03

Money in the Economy

The money paid to the Fed doesn't disappear but is removed from the economic circulation. It doesn't directly contribute to economic activities such as consumption, investment, etc., because it is held within the Federal Reserve System. In essence, it's a tool used by the Fed to manage and regulate the money supply and interest rates in the economy.

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Most popular questions from this chapter

Take a look at a Federal Reserve note. On it, you will read the following words: "This note is legal tender for all debts, public and private." What part of the definition of money does this message refer to?

Bank A has checking account deposits of \(\$ 20\) million, the reserve requirement is 10 percent, vault cash equals \(\$ 2\) million, and deposits in the reserve account at the Fed equal \(\$ 1\) million. What do required reserves equal? What do excess reserves equal?

What does it mean to say that the United States has a fractional reserve banking system?

Define: a. discount rate b. federal funds rate c. open market operation

What gives money its value?
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