Three Ways the Fed Controls Monetary Policy - Key Concept

The Federal Reserve, or “Fed”, controls money supply in the economy using three tools. The first tool involves buying and selling bonds, in the bond market. These buying and selling activities are called open market operations. The second tool is the discount rate - the interest rate on funds that the Fed loans to banks. Decreasing the discount rate encourages banks to borrow reserves from the Fed. Increasing the discount rate discourages banks from borrowing reserves from the Fed. Changing the reserve requirements is the Fed’s third tool. Reserve requirements determine the minimum amount of reserves that banks must hold against deposits.