The Federal Reserve has decided it wants to increase interest rates by decreasing the money supply through deposits held at financial intermediaries.All else equal,if the reserve requirement is 10% for all deposits,and the Fed wants to decrease deposits by $100 million,which of the following actions should be taken? Assume no excess reserves exist in the banking system.

Question

Quizplus · Accepted Answer

If the Fed wants to decrease deposits by $100 million, it needs to decrease the amount of reserves in the banking system by $100 million / 0.1 = $1 billion. This can be achieved by selling government securities to dealers totaling $1 billion, but none of the answer choices represent that option.

However, selling government securities to dealers totaling $11.1 million would decrease the amount of deposits by $111 million ($11.1 million / 0.1), which is close to the target amount. Therefore, answer choice D is the best option available.

The Federal Reserve Has Decided It Wants to Increase Interest