Question

Which of the following is a monetary policy instrument?

(a) An increase in direct taxes
(b) Open-market operations
(c) Freezing pensions
(d) A cut in government purchases of goods and services

Answer 1

Open-market operations are a monetary policy instrument used by central banks to regulate the money supply by buying and selling government bonds, influencing interest rates and economic activity.

Step-by-step explanation:

The instrument among the options provided that is used as a monetary policy tool is (b) Open-market operations. This involves the buying and selling of government bonds with banks as a way for the central bank to regulate the money supply. When the central bank conducts open-market operations, it influences the interest rate and levels of reserves that banks hold. These operations can be used in both expansionary and contractionary monetary policies, affecting the aggregate demand and consequently, the price level and the real GDP in the economy.

Open-market operations are one of the three traditional tools employed by central banks alongside reserve requirements and discount rates. However, open-market operations are the most commonly used instrument for implementing monetary policy. For instance, the Federal Reserve uses these operations to target the federal funds interest rate, significantly affecting borrowing, investment, and consumption across the economy.

Answer 2

Open-market operations (Option b) are a monetary policy instrument used by central banks to influence the economy's money supply, interest rates, and aggregate demand. The correct option is b.

Step-by-step explanation:

The question asks to identify which of the listed options is a monetary policy instrument. Option (b), open-market operations, is indeed a tool used by a central bank to conduct monetary policy. A central bank, such as the Federal Reserve, executes monetary policy using three traditional tools.

These are: open market operations, reserve requirements, and discount rates. Open market operations involve buying and selling government bonds with banks and are the most commonly used tool.

This action affects the supply of money and loanable funds in the economy, which in turn influences interest rates, borrowing behaviors, as well as investment and consumption patterns, ultimately impacting aggregate demand and GDP. The correct option is b.