If the actual interest rate is below the target rate, what action should the Fed take according to the material?

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Prepare for the Rutgers Macroeconomics Test with multiple choice questions, hints, and explanations. Master key concepts and excel in your exam!

Multiple Choice

If the actual interest rate is below the target rate, what action should the Fed take according to the material?

Explanation:
When the actual interest rate is below the target, policy needs to tighten to push rates up toward that target. The Fed does this by selling government securities in open market operations. By selling Treasuries, it drains reserves from banks, reduces the money supply, and raises short-term interest rates, moving the rate closer to the target. Buying Treasuries would add liquidity and push rates down, which would move away from the target. Increasing reserve requirements is another tightening tool, but the President does not conduct monetary policy, so the action attributed to the Fed is the correct tightening move: sell Treasuries.

When the actual interest rate is below the target, policy needs to tighten to push rates up toward that target. The Fed does this by selling government securities in open market operations. By selling Treasuries, it drains reserves from banks, reduces the money supply, and raises short-term interest rates, moving the rate closer to the target. Buying Treasuries would add liquidity and push rates down, which would move away from the target. Increasing reserve requirements is another tightening tool, but the President does not conduct monetary policy, so the action attributed to the Fed is the correct tightening move: sell Treasuries.

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