Question

How does the fed use open market operations to increase the money supply?

- the fed buys bonds to increase
- the amount of reserves that banks have on hand.
- when the fed buys bonds, banks have fewer reserves and are able to lend less .
- as banks lend more , the money supply decreases .

Answer 1

The Fed uses open market operations to increase the money supply by purchasing bonds from banks, thereby boosting their reserves and enabling them to issue more loans, which multiplies the money supply through the banking system.

Step-by-step explanation:

When the Federal Reserve (the Fed) wishes to increase the money supply, it uses open market operations to purchase government bonds from banks like Happy Bank.

This transaction increases Happy Bank's reserves, leading it to loan out the additional funds rather than holding them as reserves.

This process of lending expands the money supply in the economy because as loans increase, they generate more deposits across various banks, which in turn can be loaned out further, utilizing the money multiplier effect. Conversely, if the Fed sells bonds, banks like Happy Bank will use their reserves to purchase these bonds, decreasing their ability to lend, which in turn reduces the money supply and lending in the economy overall.