What is monetary policy and what is the Federal Reserve’s (Fed’s) role in determining monetary policy in the United States? How are changes in monetary policy implemented and how do these changes affect firms, households, and other stakeholders? This technical note addresses these questions by outlining the Fed’s legal mandate, the tools at its disposal to achieve that mandate, and the mechanisms through which the Fed’s policy choices affect macroeconomic outcomes.
This note is designed to follow a sequence on the IS/LM–AD/AS model of the macroeconomy (e.g., as presented in UVA-GEM-0125, UVA-GEM-0126, and UVA-GEM-0127). In particular, students are expected to approach this note with prior exposure to a formalization of an economy’s potential level of output and how changes in the money supply affect GDP, employment, and the price level. This note expands on prior technical material by distinguishing between the monetary base and the money supply (and hence defining the money multiplier).