What are Open Market Operations?

What are Open Market Operations?


♪ [music] ♪ – [Narrator] What are
open market operations? Open market operations
are one of the many tools the Federal Reserve Board
has at its disposal to influence monetary policy. An open market operation is when the Fed buys
and sells Treasury bills to change the amount
of money in the economy. The Fed makes these trades
with other banks, and decides how much to trade by targeting
a particular interest rate known as the “federal funds rate,” which theoretically affects
other interest rates in the economy. So open market operations
changes the money supply, which affects the supply of loans, and changes interest rates, which affects the quantity
of loans demanded. There are two types
of open market operations — expansionary and contractionary. An expansionary
open market operation is when the Fed wants
to increase the money supply and lower interest rates by purchasing Treasury bills
from banks, thus increasing the supply
of bank reserves. The new reserves would allow banks
to make more loans, thus stimulating the economy, making it easier to start
or expand new businesses, or easier to get a mortgage. This increase in bank reserves would also lower
the opportunity cost of banks loaning those reserves
out to other banks, and that, in turn, would lower
the federal funds interest rate. A contractionary open market operation is when the Fed wants
to decrease the money supply and increase interest rates
by selling Treasury bills to banks, thus decreasing the supply
of bank reserves. You may be thinking, “Why would you ever want
to slow down an economy?” Well, contractionary policies
are usually used to slow down inflation, or correct for other distortions
in the economy. Historically, open market operations were one of the most important tools
the Fed had at its disposal to influence the economy. However, in more recent times,
after the Great Recession, the Federal Reserve
has relied more heavily on its other tools. ♪ [music] ♪ To learn more about
the other tools the Fed uses to influence the economy,
click here. Or, to test your knowledge
on open market operations, click here. ♪ [music] ♪ Still here? Check out Marginal Revolution
University’s other popular videos. ♪ [music] ♪

13 Comments

  • C. Lincoln

    June 26, 2018

    1st up in this beach

    Reply
  • 2VNews

    June 26, 2018

    If the Fed didn't distort the economy in the first place it would not have to correct for its distortions. Abolish the Fed.

    Reply
  • Michael Samuel

    June 26, 2018

    Thanks for explanation. The monetary system should afford every citizen nothing less than a middle-class standard of living. My video – poverty eradication worldwide/michael samuel – can be viewed on youtube.

    Reply
  • Mario Franganito

    June 26, 2018

    This view of money creation is outdated.
    Higher reserves do not lead to more loans. What increases the number of loans is the demand for new loans.

    Reply
  • Flaming Basketball Club

    June 26, 2018

    Federal Reserves played a major role in causing the 2008 recession

    Reply
  • Michel Salazar

    June 27, 2018

    Please don't stop making videos.

    Reply
  • Mac

    November 18, 2018

    1:09 isn't there a big argument that banks cannot lend reserves though? Steve Keen etc.?

    Reply
  • Juwairia Sadik

    May 26, 2019

    This has made more sense than a 2 hour lecture

    Reply
  • Dwain Dibley

    June 5, 2019

    How did the institutions that sold the Securities to the Fed, get the securities they sold? They obviously had to buy them first, before selling them to the Fed. What did the institutions that sold the securities to the Fed use in order to buy the securities from the Treasury and other government agencies? They either used their existing "loanable" capital, in which case, they did not need the Fed's OMO to supply them with "loanable funds". Or, they created a balance sheet entry as payment for the securities, in which case, they created a balance sheet liability, which was backed by the purchased security. This would mean that the institutions that sold the securities to the Fed would have to use the proceeds to clear the liability of their books. (From thin air, back to thin air.) Of course, this is all predicated upon the false assertion that banks lend from their reserves and as documented by both the Fed and the BoE, they do not. In any case, there is no factual basis supporting the theory that the Fed's Open Market Operations either increases or decreases the usable money supply.

    Reply
  • Nisha Gowri

    June 26, 2019

    Neat explanation.. Was very useful

    Reply
  • László Török

    September 18, 2019

    More or less accurate explanation up until 1:26. No bank has ever loaned out any reserve, not for going back at least a 100 years. The non-bank entities can’t hold reserves. You need a reserve account for the with the central bank (I.e the FED). Banks create deposits when making loans, it’s not coming out of anyone’s bank account or bank reserves. The reserves are for inter bank settlements, e.g when a fresh mortgage is wired to the seller who happens to have an account with a different bank.

    Reply
  • Melanie

    November 3, 2019

    Concise and to the point. Thank you!!!!!

    Reply
  • RevesArt

    November 7, 2019

    This information is outdated. Please take down this video. Lowering the fed funds rate does not increase the money supply since reserves do not have any effect on the amount of loans that banks make. Please see the "credit theory of money" wiki

    Reply

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