Part 1: The Federal Reserve can affect the money supply through open market operations, changing the reserve requirement, changing the discount rate or the amount of discount loans made to banks, or by changing the interest rate on reserves.
A. Assume the economy is in a recessionary gap. Draw a graph showing a recessionary gap. Draw a second graph showing money supply and money demand. Design a monetary policy to close the recessionary gap. Verbally describe how your monetary policy works and draw the effects of your monetary policy change on your first and second graph.
B. Explain the concept of money neutrality. Draw two graphs, one AD/AS and one Money Demand/Money Supply. Illustrate money neutrality on your graphs.