Our nation’s central bank, known as the Federal Reserve, is responsible for conducting the US monetary policy. One of the main responsibilities includes regulating the money supply in order to keep production, prices, and employment stable. In order to manipulate the money supply, the Federal Reserve uses three tools: the reserve requirement, open market operations, and the discount rate.

Reserve requirements are percentages of deposits that banks may not lend and must hold as vault cash or on deposit at a Federal Reserve Bank. In other words, it is the money that the bank is not allowed to loan out. Therefore, reserve requirements represent a cost to the banking system. There is a continual flow of reserves among banks, which represents the ever-changing supply and demand for these reserves at individual banks.

Open market operations influence money and credit operations by buying and selling of govern

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