Targeting interest rates and targeting the money supply are equivalent if
A) money demand is stable
B) banks hold no excess reserves
C) exchange rates are fixed
D) central banks practice inflation targeting
E) consumers exhibit rational expectations

Question

Quizplus · Accepted Answer

Targeting interest rates and targeting the money supply are equivalent if money demand is stable. This is because stable money demand ensures that changes in interest rates will have predictable effects on the demand for money and, therefore, on the money supply. Without stable money demand, targeting interest rates could produce unpredictable changes in the supply of money, undermining the effectiveness of the policy. The other options listed are not relevant to the equivalence of the two policies.

Targeting Interest Rates and Targeting the Money Supply Are Equivalent