Open Market Operations
Open market operations are a way of affecting the money supply by buying or selling securities -- usually government securities. Essentially, if the Fed wants to
increase the supply of money, it turns to the market and
purchases Treasury securities (such as T-bills
, T-notes
and T-bonds
). When it buys these securities, it gives the sellers money, and that increases the supply of money in the economy.
When the Fed wants to
decrease the money supply, it does so by
selling Treasury securities and collecting money in exchange. The Fed makes these trades by using its reserve cash. And because the Fed doesn't issue the securities that it trades to change the money supply, making good on the promises of those Treasury securities is the responsibility of the U.S. Treasury, not the Fed.
Because the U.S. economy isn't in dire straits on a daily basis, the most common type of open market operation the Fed engages in is an overnight repurchase agreement, or a "repo." A Fed repo basically alters the money supply for a short time, by temporarily buying or selling government securities (see
"What's the Fed Really Up To?" on
TheStreet.com TV).
It's also worth noting that the Federal Reserve's open market operations are not relegated to government securities. While government securities have historically been the instrument of choice for the Fed and other central banks, the Fed has "saved the day" in other ways as well.
For example, the Fed recently bought $38 billion in subprime mortgages and other securites (see mortgage-backed security
), and that increased the money supply and added liquidity to the battered subprime home loan market at the same time (see
"Wall Street Limits Damage"). (To learn more about subprime mortgages, check out "
"Booyah Breakdown: Subprime Time" and
"Why Mortgages Blew Up").
Jonas Elmerraji
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