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What is the purpose of the Federal Reserve's bond buying program?

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santari | eNotes Employee

Posted August 4, 2013 at 3:29 PM via iOS

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What is the purpose of the Federal Reserve's bond buying program?

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pohnpei397 | College Teacher | (Level 3) Distinguished Educator

Posted August 4, 2013 at 3:44 PM (Answer #1)

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The purpose of the Federal Reserve’s (the Fed’s) program for buying bonds is to increase the supply of money and, thereby, stimulate economic activity.  The program of buying bonds is known as “open market operations.”  The Fed can also sell bonds, but it does so only in times when inflation is a worry, not when, as now, it feels that there is a need for more economic growth.

When the Fed buys bonds, it is buying them from banks.  The banks had been holding the bonds, which are not liquid and therefore did not contribute to the money supply.  When the Fed buys the bonds, it gives money (which is liquid) to the banks and takes the bonds.  Now, the banks have more money that they can lend out.  When banks lend more money, economic activity increases.  More businesses can borrow to finance things like expansion.  More consumers can buy “big ticket items.”  This increases economic activity and moves the economy out of a recession or out of the danger of a recession.

Thus, the purpose of this program is to increase economic activity and improve the strength of the economy.

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