If the Federal Reserve sells government bonds, show what will happen to this graph. Explain the effects on interest rates and the quantity of loanable funds
c. If the Federal Reserve sells government bonds, show what will happen to this graph. Explain the effects on interest rates and the quantity of loanable funds
According to the question, the Federal Reserve sells government bonds. When bonds are sold, interest rates suffer a rise. This occurs because, as bonds are sold, money supply decreases in the economy. As a result money becomes more valuable as a resource and hence the earnings from money in the form of interest rate increases. Interest rate acts as an earning for individuals who save their money, as those savings are used to advance loans. Therefore, as interest rate rises in response to selling bonds, the rate at which people save also rises. Thus more money is kept with the financial institutions as deposits, which can be used to provide loans. Therefore supply of funds increase in the loanable funds market.
The increase in supply of funds in the loanable funds market in response to the Fed selling government bonds is graphically indicated by a rightward shift of the supply curve. When people want to save more, they increase their savings corresponding to all interest rates- which is indicated by the rightward shift of the supply curve.
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