The discount rate is the interest rate on loans that the Federal Reserve makes t

Question

The discount rate is the interest rate on loans that the Federal Reserve makes to banks. Banks occasionally borrow from the Federal Reserve when they find themselves short on reserves. A lower discount rate banks' incentive to borrow reserves from the Federal Reserve, thereby the quantity of reserves in the banking system and causing the money supply to The federal funds rate is the interest rate that banks charge one another for short-term (typically overnight) loans. When the Federal Reserve uses open-market operations to buy government bonds, the quantity of reserves in the banking system banks' demand for borrowed reserves and the federal funds rate .

Explanation / Answer

a. Lower discount rate INCREASES bank's incentive to borrow. (cost of borrowing becomes cheap)

b. Thereby INCREASING the quantity of reserves. (because more borrowings are done)

c. Money supply to INCREASE. (lower rate incentivise to borrow thereby increasing money supply)

d. Quantity of reserves in banking system INCREASES. (money is paid in exchange of bonds, supply of money in economy increases)

e. Banks demand for borrowed funds FALLS. (as the money supply has increased, borrowing needs are lowered)

f. Fedral fund rates are REDUCED. (no or less demand for borrowed funds).

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