Answer: To raise the federal funds rate, the Fed sells securities in the open market. When the Fed sells securities in the open market, banks' reserves decrease, which raises the federal funds. In addition, the decrease in reserves decreases the quantity of money. The decrease in the quantity of money leads to a higher interest rate. A higher interest rate decreases investment and consumption expenditure, especially consumption expenditure on durable goods. In the foreign exchange market, the higher interest rate increase the attractiveness of U.S. securities. Foreigners increase their demand for U.S. dollars in order to purchase these securities and so the exchange rate of the dollar rises on the foreign exchange market. The rise in the exchange rate makes exports more expensive to foreigners and imports less expensive to U.S. residents. As a result, exports decrease and imports increase so that net exports decrease. All of the changes decrease aggregate demand.
Answer:
ReplyDeleteTo raise the federal funds rate, the Fed sells securities in the open market. When the Fed sells securities in the open market, banks' reserves decrease, which raises the federal funds. In addition, the decrease in reserves decreases the quantity of money. The decrease in the quantity of money leads to a higher interest rate. A higher interest rate decreases investment and consumption expenditure, especially consumption expenditure on durable goods. In the foreign exchange market, the higher interest rate increase the attractiveness of U.S. securities. Foreigners increase their demand for U.S. dollars in order to purchase these securities and so the exchange rate of the dollar rises on the foreign exchange market. The rise in the exchange rate makes exports more expensive to foreigners and imports less expensive to U.S. residents. As a result, exports decrease and imports increase so that net exports decrease. All of the changes decrease aggregate demand.