How Does Monetary Policy Affect the Economy 11 18 2014 1 Primary tool that the Fed uses to increase money supply is buying government bonds in open market operations which causes interest rates to fall 2 Primary tool that the Fed uses to decrease money supply is selling bonds which causes interest rates to increase 3 3 Transmission steps of expansionary monetary policy 1 Interest rates fall 2 Consumption investment increase 3 Dollar will depreciate causing exports to rise imports to fall and net exports to rise 4 3 Transmission steps of restrictive monetary policy 1 Interest rates rise 2 Consumption and investment decrease 3 Dollar appreciates causing exports to fall imports to rise and net exports to fall 5 Is there a differences between anticipated monetary policy and unanticipated monetary policy Yes unlike anticipated monetary policy which is expected unanticipated is unexpected and will increase aggregate demand accompanying an expansionary monetary policy the prices of products will rise more quickly than the costs of producing them in the short run Monetary Policy in the Long Run11 18 2014 6 In the equation of exchange why are Y and V assumed to be constant Because Y and V are determined by factors other than the amount of money in circulation Y was determined by factors like technology the size of the economy resource base and the skill of its labor force V was determined by institutional factors like the organization of banking and credit the frequency of income payments transportation speed and the communication system 7 According to this theory what is the only cause of inflation The only cause of inflation is monetary money growth Monetary Policy in the Long Run 11 18 2014 8 See Exhibit 9 on page 285 Is there an exception to the relationship between the average annual growth rate of the money supply and the rate of inflation Average annual growth rate is the only cause of inflation Low rates of money growth lead to low rates of inflation high rates of money growth lead to high rates of inflation
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