In the figure given below panel A represents money market equilibrium, panel B represents investment demand, and panel C represents equilibrium real GDP.
Figure 13.3

-Refer to Figure 13.3. Starting from the equilibrium illustrated in the graphs, if the Federal Reserve purchases government bonds in the open market, then:
A) investment spending will decline.
B) bond prices will decline.
C) equilibrium real GDP will fall.
D) interest rates will fall.
E) money demand will decline.

Question

In the figure given below panel A represents money market equilibrium, panel B represents investment demand, and panel C represents equilibrium real GDP.
Figure 13.3
 
-Refer to Figure 13.3. Starting from the equilibrium illustrated in the graphs, if the Federal Reserve purchases government bonds in the open market, then:
A) investment spending will decline. 
B) bond prices will decline. 
C) equilibrium real GDP will fall. 
D) interest rates will fall. 
E) money demand will decline.

Quizplus · Accepted Answer

If the Federal Reserve purchases government bonds in the open market, it increases the money supply, which reduces interest rates (as there is more money available to be loaned out), leading to an increase in investment spending and an increase in equilibrium real GDP. Bond prices may initially rise due to the increased demand for bonds, but over time, the increased money supply will lead to lower bond prices. Money demand may initially increase due to the increased money supply, but it is unlikely to decline overall.

In the Figure Given Below Panel a Represents Money Market