Reducing the money supply ______ nominal interest rates in the short run, and ______ nominal interest rates in the long run.
A) produces no change in; raises
B) raises; produces no change in
C) raises; lowers
D) lowers; raises

Question

Quizplus · Accepted Answer

Reducing the money supply raises nominal interest rates in the short run because it makes it more expensive for banks to borrow money. This, in turn, leads to higher interest rates on loans and other forms of borrowing. In the long run, however, reducing the money supply can actually lower nominal interest rates. This is because a smaller money supply means that there is less money chasing the same amount of goods and services. This can lead to lower prices, which in turn can lead to lower interest rates.

Reducing the Money Supply ______ Nominal Interest Rates in the Short