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I have a very basic question on the somewhat cryptic Open Market Operations. So, from what I understand, say the Fed wants to reduce interest rates (increase monetary base). It will firs buy a bond by writing a cheque to the security holder, the cheque is deposited in a commerical bank, which then deposits this in the central bank. The reserve account of the central bank is credited, and the commercial bank is then able to use these "excess reserves" to create fresh loans- injecting money in the economy. I guess my question is: when the issuer of the bond (say the government) has to pay back to the security holder (central bank), wont it decrease money supply then?

Thanks!

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    $\begingroup$ @GuyLouzon is right by saying that CBs can issue bonds. But the point is that you are not wrong neither. Your understanding is correct as well. You are typically describing how, say, commercial banks, do refinancing. And effectively, when the issuer of the bond has paid the money back, the money supply decreases. Actually, it's all what debt is about: the underlying money is "destroyed" at the end of the contract. $\endgroup$
    – keepAlive
    Commented Oct 5, 2018 at 16:03

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Your question reversed the order... If the central bank issues the bond, its gets money (thus decreasing the amount of money in the system), it pays the money back throughout a certain period of time, then money goes back to circulation But by that time, the central bank can issue new bonds and repeat the process

Essentially, central banks manages a balance Of course the catch is it pays money it *invents *...

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  • $\begingroup$ I think your response deals with issuing bonds (or selling bonds). I was referring to buying bonds (say government bonds), that would increase Ms... $\endgroup$
    – ChinG
    Commented Oct 5, 2018 at 21:14
  • $\begingroup$ its the same mechanism... furthermore, it cannot be split into buy or selling, but functions as balance managing $\endgroup$
    – Guy Louzon
    Commented Oct 7, 2018 at 9:38

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