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What does the Fed do to expand aggregate demand? Choose two

Rationale

Increase the money supply and lower the interest rate.

The Federal Reserve (Fed) expands aggregate demand primarily by increasing the money supply and lowering interest rates, which encourages borrowing and spending by consumers and businesses. These actions stimulate economic activity by making it easier and cheaper to access credit.

A (Decrease the money supply) YOUR ANSWER

Decreasing the money supply would contract the economy rather than expand it. A reduction in money available in the financial system typically leads to higher interest rates, which discourage borrowing and spending, ultimately decreasing aggregate demand.

B (Increase the money supply) CORRECT

Increasing the money supply injects more funds into the economy, facilitating easier access to credit. This action lowers interest rates, enabling consumers and businesses to borrow more, thus stimulating spending and investment, which directly expands aggregate demand.

C (Reduce the quantity of reserves) YOUR ANSWER

Reducing the quantity of reserves held by banks would limit their ability to lend, constraining the money supply. This would lead to tighter credit conditions and potentially increase interest rates, which would not support an expansion of aggregate demand.

D (Lower the interest rate) CORRECT

Lowering interest rates makes borrowing less expensive, incentivizing both consumers and businesses to take loans for consumption and investment. This increase in borrowing directly contributes to higher spending, thereby expanding aggregate demand.

E (Increase the foreign exchange rate) YOUR ANSWER

An increase in the foreign exchange rate typically makes domestic goods more expensive for foreign buyers, potentially reducing exports. This can negatively impact aggregate demand as it diminishes international sales, which are crucial for economic growth.

F (Raise mortgage rates) YOUR ANSWER

Raising mortgage rates would deter home buying and reduce consumer spending on housing-related purchases. This action would lead to decreased demand in the housing market and related sectors, contrary to the goal of expanding aggregate demand.

Conclusion

To effectively expand aggregate demand, the Fed's strategies include increasing the money supply and lowering interest rates. These measures promote accessibility to credit and encourage spending, driving economic growth. Conversely, options such as decreasing the money supply or raising interest rates would contract demand, highlighting the importance of these specific actions in monetary policy.

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