When the Federal Reserve sells a government bond to a primary dealer,reserves in the banking system ________ and the monetary base ________,everything else held constant.

Question

Quizplus · Accepted Answer

When the Federal Reserve sells a government bond to a primary dealer, reserves in the banking system decrease because the primary dealer uses its reserve account at the Fed to pay for the bond. This decreases the amount of reserves banks have available to lend. The monetary base decreases because the sale of the government bond reduces the Fed's assets and the funds received in payment for the bond reduce the Fed's liabilities. As a result, the Fed's balance sheet shrinks and the monetary base contracts.

When the Federal Reserve Sells a Government Bond to a Primary