Currently, banks hold $20 bn reserves in excess of required reserves at the Federal Reserve. The Federal Reserve is worried that required reserves are insufficient has decided to increase the required reserves by a total of $5bn.

At the same time, economic growth is weak. In response, the Federal Open Market Committee (FOMC) has decided to lower the target interest rate in market for federal funds.

Question 1:

Using this depiction of the federal funds market, what is the impact of higher reserve requirements? What happens to equilibrium interest rate?

Question 2:

Using this depiction of the federal funds market, discuss what instruction the Federal Open Market Committee (FOMC) needs to give to the Federal Reserve Bank of New York to lower the target interest rate after implementing the higher reserve requirement.