The FED has recently decided to reverse the massive buildup of its holding of Treasury and mortgage bonds. Thus, they began to sell these Treasury securities in the financial markets to remove liquidity from them and reduce the supply of money and credit in the economy. This will create a shortage in the money market. [Q#8c] How does the FED hope and predict that banks andthe bond mar-ket will respond to its efforts to restrict and reduce thesupply of money:[a] Banks will increase the rates they offer on long term BankCDs and thiswill pull money balances into them. Likewise, sellingpressure in thebond market will lower bond prices and increase bondinterest yields.Thus, higher interest rates.(b) Banks will reduce the rates they offer on long term BankCDs and this willpush funds out of them into money balances. Likewise,selling pressurein the bond market will raise bond prices and decrease bondinterestyields. Thus, lower interest rates.

Answered: [Q#8c] How does the FED hope and…

ENGR.ECONOMIC ANALYSIS

14th Edition

ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

Section: Chapter Questions

Problem 1QTC

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The FED has recently decided to reverse the massive buildup of its holding of
Treasury and mortgage bonds. Thus, they began to sell these Treasury
securities in the financial markets to remove liquidity from them and reduce
the supply of money and credit in the economy. This will create a shortage in
the money market.

[Q#8c] How does the FED hope and predict that banks and
the bond mar-
ket will respond to its efforts to restrict and reduce the
supply of money:
[a] Banks will increase the rates they offer on long term Bank
CDs and this
will pull money balances into them. Likewise, selling
pressure in the
bond market will lower bond prices and increase bond
interest yields.
Thus, higher interest rates.
(b) Banks will reduce the rates they offer on long term Bank
CDs and this will
push funds out of them into money balances. Likewise,
selling pressure
in the bond market will raise bond prices and decrease bond
interest
yields. Thus, lower interest rates.

Definition Definition Financial market that deals in securities or assets that are short-term in nature. The money market is responsible for keeping up the liquidity of the businesses and the organizations. These securities are usually held for a period of 12 months or less and are issued by institutions that require cash or funds for their short-term cash flow requirements. The money market is regulated by the federal government.

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