Question

Suppose the money multiplier in the United States is 3. Suppose further that if the Fed changes the discount rate by 1 percentage point, banks initially change their reserves by 400. To reduce the money supply by 4,200 the Fed should:

Answer 1

increase the discount rate by 3.5% points

Step-by-step explanation:

Since the money multiplier is 3, a 1% increase in the discount rate will decrease the money supply by: $400 x 3 = $1,200

If the Fed wants to lower the money supply by $4,200, it should increase the discount rate by: $4,200 / $1,200 = 3.5 points