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What are the 4 Conventional Monetary Policy Tools of the Federal Reserve?
The Federal Reserve has a wide set of policy tools available, visible here on their website, all under the general directive of ensuring stable economic growth.
Of those tools, four are the most central (pun intended) and critical to learn. I like to use the ROID acronym to remember these, as follows:
- Reserve Requirements
- Open Market Operations
- Interest on Reserve Balances
- Discount Window
Reserve Requirements
Reserve requirements are the minimum amount of reserves that banks must keep on hand against their deposits. Reserves can either be held as cash by a bank, or as deposits with the Federal Reserve. Adjust reserve requirements impacts banks’ ability to lend money, which stimulates economic activity. Thus:
- Lowering reserve requirements stimulates economic activity, since banks can issue more loans at better rates.
- Raising reserve requirements forces banks to keep more money in cash and not lend it, which slows economic activity.
