What is the effect of the Fed's purchases and sales of bonds?

Question

Multiple choice question.

The Fed buys and sells large quantities of bonds to influence the equilibrium price and interest rates on bonds.

The Fed buys and sells small quantities of bonds to avoid disrupting the equilibrium price and interest rates on bonds.

The Fed buys and sells small quantities of bonds, which influences the equilibrium price but not the interest rates on bonds.

The Fed buys and sells large quantities of bonds, which influences the equilibrium price but not the interest rates on bonds.

Answer 1

The correct choice is:

The Fed buys and sells large quantities of bonds to influence the equilibrium price and interest rates on bonds.

The Federal Reserve's actions in buying and selling bonds are intended to influence financial conditions, including interest rates, through adjustments in the supply and demand for those bonds in the market. When the Fed buys bonds, it increases their demand, which generally raises the prices and lowers the yields (interest rates). Conversely, selling bonds decreases demand, which generally lowers prices and raises yields.