How does a bond sale by the Fed affect the money supply?

Question

The sale decreases the money supply.

It does not affect the money supply.

The sale increases the money supply but not in the proportion that the multiplier effect would suggest.

The sale increases the money supply.

Answer 1

The correct answer is: The sale decreases the money supply.

When the Federal Reserve (Fed) sells bonds, it takes money out of circulation. Investors pay for these bonds with cash, which effectively reduces the amount of reserves in the banking system. As a result, the overall money supply in the economy decreases. This is part of the Fed's tools for controlling inflation and managing economic growth.