Homework Help

Explain what happens if the central bank sells government bonds to the public.

user profile pic

jameelagoodall | Student, Undergraduate | (Level 2) eNoter

Posted April 8, 2013 at 2:58 PM via web

dislike 2 like

Explain what happens if the central bank sells government bonds to the public.

4 Answers | Add Yours

user profile pic

pohnpei397 | College Teacher | (Level 3) Distinguished Educator

Posted April 8, 2013 at 3:07 PM (Answer #1)

dislike 1 like

If all other things remain equal, aggregate demand and, therefore, nominal GDP will not rise as quickly as it had been before the central bank took this action.

When the central bank sells government bonds, it is essentially taking money from the public and placing it out of circulation.  The money is no longer available to be used for consumer spending or investment.  This means that aggregate demand will not rise as fast as it had been (it could actually drop, but the central bank would try hard to avoid this).

When the central bank does this, it is also likely to lead to an increase in interest rates.  With more money taken out of the economy, there is less money available to be borrowed.  When there is less money to be borrowed, the price of borrowing rises.  The rise in the interest rates further decreases consumption and investment because people and firms are less able to borrow in order to finance such purchases.

Thus, buying government bonds is a measure that the central bank takes when it wishes to slow the economy down and prevent inflation.

user profile pic

jameelagoodall | Student, Undergraduate | (Level 2) eNoter

Posted April 8, 2013 at 3:19 PM (Answer #2)

dislike 0 like

If all other things remain equal, aggregate demand and, therefore, nominal GDP will not rise as quickly as it had been before the central bank took this action.

When the central bank sells government bonds, it is essentially taking money from the public and placing it out of circulation.  The money is no longer available to be used for consumer spending or investment.  This means that aggregate demand will not rise as fast as it had been (it could actually drop, but the central bank would try hard to avoid this).

When the central bank does this, it is also likely to lead to an increase in interest rates.  With more money taken out of the economy, there is less money available to be borrowed.  When there is less money to be borrowed, the price of borrowing rises.  The rise in the interest rates further decreases consumption and investment because people and firms are less able to borrow in order to finance such purchases.

Thus, buying government bonds is a measure that the central bank takes when it wishes to slow the economy down and prevent inflation.

This is not exactly what I was asked, what really wanted to is, what happens to the interest rate, consumption, investment, and aggregate demand, if the central bank sells government bonds to the public.

user profile pic

jameelagoodall | Student, Undergraduate | (Level 2) eNoter

Posted April 8, 2013 at 3:22 PM (Answer #3)

dislike 0 like

If all other things remain equal, aggregate demand and, therefore, nominal GDP will not rise as quickly as it had been before the central bank took this action.

When the central bank sells government bonds, it is essentially taking money from the public and placing it out of circulation.  The money is no longer available to be used for consumer spending or investment.  This means that aggregate demand will not rise as fast as it had been (it could actually drop, but the central bank would try hard to avoid this).

When the central bank does this, it is also likely to lead to an increase in interest rates.  With more money taken out of the economy, there is less money available to be borrowed.  When there is less money to be borrowed, the price of borrowing rises.  The rise in the interest rates further decreases consumption and investment because people and firms are less able to borrow in order to finance such purchases.

Thus, buying government bonds is a measure that the central bank takes when it wishes to slow the economy down and prevent inflation.

This is not exactly what I was asked, what really wanted to is, what happens to the interest rate, consumption, investment, and aggregate demand, if the central bank sells government bonds to the public.

Nevermind!! I got it!

user profile pic

jameelagoodall | Student, Undergraduate | (Level 2) eNoter

Posted April 8, 2013 at 3:28 PM (Answer #4)

dislike 0 like

If all other things remain equal, aggregate demand and, therefore, nominal GDP will not rise as quickly as it had been before the central bank took this action.

When the central bank sells government bonds, it is essentially taking money from the public and placing it out of circulation.  The money is no longer available to be used for consumer spending or investment.  This means that aggregate demand will not rise as fast as it had been (it could actually drop, but the central bank would try hard to avoid this).

When the central bank does this, it is also likely to lead to an increase in interest rates.  With more money taken out of the economy, there is less money available to be borrowed.  When there is less money to be borrowed, the price of borrowing rises.  The rise in the interest rates further decreases consumption and investment because people and firms are less able to borrow in order to finance such purchases.

Thus, buying government bonds is a measure that the central bank takes when it wishes to slow the economy down and prevent inflation.

Thank you

Join to answer this question

Join a community of thousands of dedicated teachers and students.

Join eNotes