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The Federal Reserve System The FED Monetary Policy What is the Fed? The Federal Reserve: serves as the nation’s bank regulates the county’s banking system regulates the country’s money supply The Fed sets the Monetary Policy - actions taken by the Fed to influence production (GDP) and inflation in the economy. Functions of the Federal Reserve Setting Reserve Requirements - The Fed determines how much money banks are required to keep. This ensures that banks will have enough funds to supply customer’s withdrawal needs. Setting Interest Rates - This determines the cost of borrowing money. Functions of the Federal Reserve Open Market Operations - the buying or selling off of government securities (bonds) to alter the supply of money. In order to increase the money supply the Fed purchases government bonds from its reserve funds and deposits them in the bank. This puts money into circulation. Functions of the Federal Reserve In order to decrease the money supply, it makes an open market bond sale. The Fed sells securities back to bond dealers to take money out of circulation. How Monetary Policy Works: Monetary Policy alters the supply of money. The supply of money then affects interest rates. Interest rates affect the level of spending in the economy. Loose Money Supply Money Interest Supply Rates High High Demand Production In this way, the FED can increase production (GDP) Tight Money Supply Money Interest Supply Rates Low Low Demand Production If the economy is experiencing rapid expansion that may cause high inflation, the FED uses this policy to slow expansion. Even though it can only alter the money supply, the Fed has a great impact on the economy. Inflation Deflation Money Value Low Interest Rates High Interest Rates