a. What are the main assets on the Federal Reserve’s balance sheet?
b. What is the main liability on the Fed’s balance sheet?
c. Use your answers to (a.) and (b.) to explain why the Fed is a very profitable bank.
Describe how the Fed could use each of its four policy tools to conduct expansionary monetary policy (i.e., increase reserves and ultimately increase real GDP and the price level). Give a separate answer for each policy tool.
The Fed’s War on Inflation under Chairman Paul Volcker in 1979-1982 caused unemployment to skyrocket, from 6% to 11%, and also caused inflation to fall, from 13% to 5%.
a. Use a Phillips curve diagram to illustrate this process. (Hint: movement along the curve.) Also give a verbal explanation of how Fed policy made this happen.
b. After 1982, inflation continued to fall and unemployment did not rise. The usual explanation is that people had come to expect low inflation. Use another Phillips curve diagram to illustrate this process. (Hint: shift of the curve.) Also give a verbal explanation of how Fed policy and the change in people’s expectation of inflation caused the shift.