Create two separate graphs that show current changes in equi

Create two separate graphs that show current changes in equilibrium interest rates using the MD and MS curves. Describe the following:

The Fed\'s actions to fight recession

The Fed\'s actions to lower inflation

Creat two NEW graphs adding AD/AS curves to each of the graphs you created in Step 1.

Answer these two questions from the graphs you created in steps one and two.

Describe the transmission process of monetary policy.

How do the Fed\'s actions to fight recession and lower inflation differ? How are they similar?

Solution

(New graph)

The Fed increases the money supply by buying bonds.

The central bank provides funds to the banking system and charges interest. It can fully determine the interest rate. The change in the official interest rate affects directly the market interest rates, and indirectly lending and deposit rates.Higher interest rates increase the risk of borrowers being unable to pay back their loans. It will also reduce the consumption and investment by households and firms. Changes in consumption and investment will change the level of domestic demand for goods and services relative to domestic supply.

The Federal Reserve has primarily influenced overall financial conditions by adjusting the federal funds rate--the rate that banks charge each other for short-term loans. Movements in the federal funds rate are passed on to other short-term interest rates that influence borrowing costs for firms and households. This policy will certainly have an influence on inflation. Fed follows expansionary policy to fight recession by increasing the money supply in the economy. The main intention of the Fed is to bring the economy back to a stable position though it follows different methods.

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