Question

Define monetary base. Describe and discuss the methods that the Federal Reserve controls the monetary base.

Answer 1

The monetary base is the total amount of currency and commercial bank reserves held by the central bank of a country. The Federal Reserve controls the monetary base through open market operations, changing reserve requirements, and changing the discount rate.

Step-by-step explanation:

The monetary base is the total amount of currency and commercial bank reserves held by the central bank of a country. In the United States, the Federal Reserve controls the monetary base using different methods:

1. Open market operations: The Federal Reserve buys or sells U.S. Treasury bonds to influence the quantity of bank reserves and interest rates.
2. Changing reserve requirements: The Federal Reserve can increase or decrease the percentage of deposits that banks must hold as reserves, affecting their ability to lend.
3. Changing the discount rate: The discount rate is the interest rate the Federal Reserve charges commercial banks for borrowing funds. By changing this rate, the Federal Reserve encourages or discourages banks from borrowing.

These methods allow the Federal Reserve to expand or contract the money supply, which affects the availability and cost of credit in the economy.