Question 10 1 pts 7.0% 5.5% 5.0% 5.5% 5.0% 4.5% 4.0% 3.5% 3.0% 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% SD $10 520 $30 $40 55D $50 $7\" $80 $90 $100 $110 511" $130 5140 $150 $160 Federal Funds Rate Bank Excess Reserves ($Billion) Here is another realistic scenario. Consider the above graph that shows demand for excess reserves by the banking system as a whole. The discount rate is 4.5 percent and the Fed pays an interest of 1.50 percent on excess reserves. Currently banks as a whole are holding an excess reserve of $70 billion. Suppose that as a result of a long and deep recession (such as the one occurred in 2007-08), the Fed has been increasing the supply of reserves in order to reduce the fed funds rate. As a result, currently the supply of reserves stands at $110 billion. The Fed wants to reduce the fed funds rate further to only 0.50 percent. Can it accomplish this goal through an additional open market purchase? If the Fed increases the supply of reserves by an additional $20 billion, the equilibrium fed funds rate will equal percent. It seems that, to reduce the equilibrium fed funds rate to 0.50 percent, the Fed has to reduce the interest it pays on bank reserves. If the Fed reduces the interest it pays on reserves to 0.50 percent, the equilibrium federal funds rate will equal percent but it has to supply additional reserves of billion dollars to commercial banks through open market operations. Question 11 1 pts 7. 0% E. 5% 67 0% 15% 5 l 096 4. 596 4. 0'36 3. 5'36 3. U96 2. 5% 2' 0'36 115% 1096 0. 5% 0.0% $0 $10 $20 $30 $40 $50 $60 $70 $80 $90 $100 $110 $110 $130 5140 $150 $160 Federal Funds Rate Bank Excess Reserves ($Billion) Here is another realistic scenario. Consider the above graph that shows demand for excess reserves by the banking system as a whole. The discount rate is 4.5 percent and the Fed pays an interest of 1.50 percent on excess reserves. Currently banks as a whole are holding an excess reserve of $110 billion. If demand for reserves decreases by $20 billion, the equilibrium fed fuds rate will equal percent. Question 12 1 pts 7. 0% 5. 5% 6. 0% 5. 5% 5 . D96 4. 5% 4. 0'36 3. 596 3. 0% Z. 5% 2. 0% 1. 59C. 1. . D99 0. 59' 0.0% SD 510 $20 530 540 $50 $60 $70 580 590 $100 $110 5120 $130 5140 $150 $160 Federal Funds Rate Bank Excess Reserves ($Billion) The model of the federal funds market that we have learned is sometimes called the corridor model. This is because, in this model the equilibrium fed funds rate uctuates between the discount rate and the interest on reserves. This gives the Fed a tool to control the uctuations in the equilibrium fed funds rate. Let's see how. Assume that currently banks as a whole are holding an excess reserve of $70 billion. Suppose also that currently the discount rate is 4.5 percent and the interest on reserves equals 1.5 percent. In this case, if demand for reserves increases by $40 billion dollars, the equilibrium fed funds rate will increase to percent, and if it decreases by $40 billion, the equilibrium fed funds rate will decrease to percent. Now suppose the Fed wants to reduce the uctuations in the equilibrium fed funds rate. So it changes the discount rate to 3.5 percent and the interest on reserves to 2.5 percent. In that case, if demand for reserves increases by $40 billion dollars, the equilibrium fed funds rate will increase to percent, and if it decreases by $40 billion, the equilibrium fed funds rate will decrease to percent