114 Unit 2 Money and Regulation $299.70 (payment per month on a $10,000 loan at 5%) × 36 (term of the loan in months) = $10,789.20 $286.42 (payment per month on a $10,000 loan at 2%) × 36 (term of the loan in months) = $10,311.12 $10,789.20 (total paid for car with 5% interest) $10,311.12 (total paid for car with 2% interest) = $478.08 (difference paid over the life of the loan) The BOG and the FOMC have three basic tools they use to conduct monetary policy: open market operations the discount rate reserve requirements Together, these tools enable the Fed to effectively carry out the nation’s monetary policy. The FMOC supervises the purchase and sale of long-term loans issued by the government to raise money. This is an application of the open market operations tool. The discount rate is the interest banks pay to borrow money from a Federal Reserve Bank. This rate affects the interest rate that the banks charge customers to borrow money. The FOMC sets the discount rate every two weeks. The BOG then approves the new rate. The discount rate is an important factor in monetary policy. Businesses borrow money if they need funds to expand or survive an economic downturn. A change in interest rate, either up or down, might affect the number of people a business can afford to employ. If your employer cannot afford to borrow money because interest rates are high, it may need to reduce staff and your job may be cut. On the other hand, if your employer can borrow money to grow the business because interest rates are low, it may be able to hire more employees. This is the effect the Fed can have on employment. The discount rate also affects the interest you pay to purchase something on credit, as shown in Figure 5-4. You and the businesses in your area may borrow money from your local bank. If necessary, your local bank borrows money from the Federal Reserve Bank in its district to make the loan. The interest rate the bank charges you when you borrow money is based on the discount rate charged by the Federal Reserve Bank. The interest rate you pay is tied to the prime rate. The prime rate is the interest rate that banks charge their best commercial customers. Reserve requirements also play a big role in monetary policy. The BOG sets the amount of money each bank must keep in its vaults or at a Federal Reserve Bank. This value is rarely changed. The Fed also dictates reserve requirements. A reserve requirement is the amount of money a bank must keep and not invest or loan out. The amount of the reserve requirement has a big impact on the money supply. Bank Regulation and Supervision All national banks and some state-chartered banks are members of the Federal Reserve System. The Fed issues regulations that affect how member banks conduct business. For example, regulations determine
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