How are the monetary tools used to stimulate THE ECONOMY when unemployment is high?

When addressing the problems of unemployment, the monetary tool, expansionary monetary policy comes into play. Expansionary policy makes every effort to stimulate the economy by increasing the sum of money in motion, along with equivalent reduction in interest rates. Expansionary monetary policy is put into motion by the central bank through the open market operation. This is the process of purchasing government bonds to increase the supply of money and lower interest rates. Lowering interest rates and increasing the money supply are done to help with the incentive for businesses to lend, invest, and overall expand. Because the banks and institutions that sold the central bank the debt have more cash, it is easier for them to make loans to its customers (Boundless). Interest rates for loans initially go down, allowing businesses to use the money for expansion. Expansion leads to more jobs to be filled, reducing unemployment rates.

How are the monetary tools used to reduce or prevent inflation?

The Federal Reserves most import job is to manage inflation while preventing a recession. Contractionary monetary policy is the type of monetary policy the Fed uses in attempt to slow down economic growth. Economic growth can be slowed when the money allowed into the market is limited. This action makes receiving loans more expensive.
Most commonly monetary tool used to prevent inflation is the open market operation, which is the process of the Fed buying and selling securities. To prevent inflation securities are sold, forcing banks to buy them, to reduce capital and allow higher interest rate charges.
Another tool is the process of raising the Reserve requirement. Raising the amount of money banks are required to reserve allows more to be kept out of rotation. Another tool used is the option of increasing the discount rate. This is the interest rate the Fed itself charges to allow banks to borrow funds from the Fed's discount window (Amadeo).
The last tool the Fed may use is the Fed funds rate. This is the interest rate banks charge for loans they make to each other to maintain the Reserve requirement (Amadeo). Usually the Fed will change the Fed funds rate, before making changes the reserve requirement and discount rate. This monetary tool is a simple and gives the same results from raising either the reserve requirement or discount rate.


Amadeo, K. (n.d.). How Interest Rates Are Determined. Retrieved March 5, 2015, from

Boundless. “The Effect of Expansionary Monetary Policy.” Boundless Economics. Boundless, 14 Nov. 2014. Retrieved 03 Mar. 2015 from