Why do interest rates change when bond prices change

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1. What is the current yield on a bond? Why do interest rates change when bond prices change?

2. Suppose the banking system has vault cash of $1,000, deposits at the Fed of $2,000, and demand deposits of $10,000.

a. If the reserve requirement is 20 percent, what is the maximum potential increase in the money supply given the banks' reserve position?

b. If the Fed now purchases $500 worth of government bonds from private bond dealers, what are excess reserves of the banking system? (Assume that the bond dealers deposit the $500 in demand deposits.) How much can the banking system increase the money supply given the new reserve position?

Reference no: EM131347287

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