Financial Markets and Institutions (2-downloads)

Nonbank Public

Assets

Liabilities

Securities

–$100

Checkable deposits

+$100

Banking System

Assets

Liabilities

Reserves

+$100

Checkable deposits

+$100

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Chapter 10 Conduct of Monetary Policy: Tools, Goals, Strategy, and Tactics

217

Federal Reserve System

Assets

Liabilities

Securities

+$100

Reserves

+$100

The effect on the Fed’s balance sheet is that it has gained $100 of securities

in its assets column, while reserves have increased by $100, as shown in its lia-

bilities column:

As you can see, the result of the Fed’s open market purchase is an expansion of

reserves and deposits in the banking system. Another way of seeing this is to recog-

nize that open market purchases of bonds expand reserves because the central bank

pays for the bonds with reserves. Because the monetary base equals currency plus

reserves, we have shown that an open market purchase increases the monetary base

by an equal amount. Also, because deposits are an important component of the money

supply, another result of the open market purchase is an increase in the money sup-

ply. This leads to the following important conclusion: An open market purchase