Final answer:
A Treasury STRIP is created from the separation of interest and principal payments of marketable U.S. Treasury securities. In an open market purchase, when the Fed buys bonds from a bank, the bank's reserves increase, creating an opportunity for the bank to lend more. This lends more, affecting the asset side of the bank's balance sheet.
Step-by-step explanation:
The security that results from the separation of the interest and principal portions of marketable U.S. Treasury securities is known as a Treasury STRIP (Separate Trading of Registered Interest and Principal of Securities). A Treasury STRIP is created when the interest and principal payments of Treasury bonds or notes are separated and sold individually as zero-coupon securities. They do not pay periodic interest; instead, they are sold at a discount and mature at their face value.
Regarding the open market purchase scenario, when the Fed buys Treasury bonds from Acme Bank, the bank's balance sheet would reflect the changes by increasing their reserves by $10 million (the amount received for the bonds) and decreasing their bonds holdings by $10 million. If Acme Bank decides to use these new funds to issue loans, the loans on the asset side of the balance sheet would increase by the amount of new loans made. This is because funds received from selling bonds to the Fed become part of the bank's reserves, which can then be used to extend new loans to borrowers.