In times of recession Fed. would like to increase the money supply to instill consumption in the economy. In order to do so it would decrease the reserve requirements, banks will have more cash to lend, interest rates will decrease as supply of money increases, consumption as well as investment will increase, aggregate demand increases and so GDP will increase. It would also decrease the discount rate, banks will borrow cheaper money from Fed. and would charge lower interest rates. The lower interest rates would increase consumption and investment, aggregate demand will increase and economy would be lifted. Another way is that Fed. would buy government securities from the money market. This will inject money into circulation, decrease interest rates, increase credit based consumption, increase investment, increase aggregate demand and increase GDP. (Pride, Hudges & Kapoor, 2008)
It is imperative to note here that these tools can be used in conjunction or one at a time as deemed by the Fed. It would alter those tools that provide the best policy and implementation fit.
4: As the economy is already heading towards recession or some say already is in recession. I would keep the reserve requirement constant as this tool impacts financial institutions and consumers on many scales. However, I would decrease the discount rate charged to member banks and also buy government securities from the market to increase money supply. Doing so I would be able to lower the interest rates and increase consumption as well as investment to provide support to aggregate demand. This will help to increase the GDP. On the other hand, it will also cause inflationary trends to take hold and increase the price level of goods in the economy. Therefore, boosting economy would come at the price the diminishing purchasing power of consumers.
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