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Which of the following policy actions by a country’s central bank would increase the money supply in the economy?a.Decreasing the policy rate.b.Increasing the minimum reserve requirements.c.Selling government bonds through open market operations.d.Raising the interest paid on bank reserves deposited with the central bank.

Question

Which of the following policy actions by a country’s central bank would increase the money supply in the economy?a.Decreasing the policy rate.b.Increasing the minimum reserve requirements.c.Selling government bonds through open market operations.d.Raising the interest paid on bank reserves deposited with the central bank.

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Solution

The policy action by a country’s central bank that would increase the money supply in the economy is a. Decreasing the policy rate.

Here's why:

a. Decreasing the policy rate: When the central bank decreases the policy rate, it reduces the cost of borrowing. This encourages banks to lend more, which increases the amount of money circulating in the economy.

b. Increasing the minimum reserve requirements: This action would actually decrease the money supply. When the central bank increases the minimum reserve requirements, banks have less money to lend out, which reduces the money supply.

c. Selling government bonds through open market operations: This action would also decrease the money supply. When the central bank sells government bonds, it is taking money out of the economy and giving bondholders a promise to pay them back in the future.

d. Raising the interest paid on bank reserves deposited with the central bank: This action would also decrease the money supply. When the central bank raises the interest paid on bank reserves, banks have an incentive to hold onto their reserves rather than lending them out, which reduces the money supply.

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