What Are the Three Main Tools of Monetary Policy?
The three main tools of monetary policy used by the Federal Reserve are open-market operations, the discount rate and the reserve requirements. Through the use of these three tools, the Fed can manipulate market movements to exercise control over the economy.
Using open-market operations, the Fed trades U.S. government securities over the open marketplace to increase or decrease the amount of money in the system. By changing the discount rate at which banks borrow from the reserve, the Fed can increase or decrease the cost of money from intrabank loans to consumer borrowing. Changing the reserve requirements, the amount of money banks need to hold on hand, also changes the amount of money available for lending in the overall economy.