The Federal Reserve and its tools

Grade 12 Social Studies Worksheet

Circle the best answer.

1. Read this first

   Federal funds rate, inflation and unemployment, December 2021 to 2024

   December of	Effective federal funds rate (percent)	PCE price index (2017 = 100)	PCE inflation over the year (percent)	Unemployment rate (percent)
   2021	0.08	112.09	6.0	3.9
   2022	4.10	118.37	5.6	3.5
   2023	5.33	121.76	2.9	3.8
   2024	4.48	124.98	2.6	4.1

   Note: Effective federal funds rate (FEDFUNDS, monthly average), PCE price index (PCEPI, index 2017 = 100) and civilian unemployment rate (UNRATE, from the BLS), all through FRED, retrieved Nov 14, 2026. Inflation is the percent change in the December index from the December before; the index for December 2020 was 105.70. Card B: The Fed's goals are maximum employment and stable prices, which it defines as 2 percent PCE inflation over the longer run. Card C: The real interest rate is the nominal rate minus inflation (a simple rule in our words). Card D: Economists disagree about how fast and how much interest-rate changes work through spending, jobs and prices, and supply problems also move prices.

2. 1.

   Pia applies card C to December 2022. Which statement about the cost of borrowing is best supported?

   • The real rate was about +9.7 percent, because inflation is added to the nominal rate
   • The real rate was 4.10 percent, because the nominal rate shows what borrowers truly pay
   • The real rate was about -5.9, which is the 2021 figure, since the sign shows borrowing was cheap
   • The nominal rate (4.10) was above 2021's but below inflation (5.6), so the real rate was about -1.5
3. 2.

   Bo compares December 2022 with December 2023 using card C. Which account of how tight policy was in real terms is best supported?

   • Policy tightened by 1.2 points, the rise in the nominal rate from 4.10 to 5.33
   • The real rate rose from about -1.5 to about +2.4: the rate rose 1.2 while inflation fell 2.7
   • Policy loosened, because unemployment rose from 3.5 to 3.8 between the two Decembers
   • Policy tightened because the Fed's rate rises caused the 2.7-point fall in inflation
4. 3.

   Esme compares December 2023 with December 2024 against card B's goals. Which statement is best supported?

   • Prices fell during 2024, since inflation fell from 2.9 to 2.6 percent
   • Maximum employment was reached, because 4.1 percent unemployment is low in the table
   • Inflation moved closer to 2 percent (2.9 to 2.6) while unemployment rose (3.8 to 4.1)
   • Inflation moved away from 2 percent, because the federal funds rate fell from 5.33 to 4.48
5. 4.

   A commentator says the 2022 and 2023 rate rises brought inflation down from 5.6 to 2.9. Jun tests the claim with card D. What is the best verdict?

   • Refuted: inflation in December 2023 was still above 2 percent, so the rate rises failed
   • Refuted: the real rate was negative in 2022, so rates did nothing in 2022 or 2023
   • Plausible but not shown: inflation fell as the rate rose, yet supply problems also move prices
   • Shown: inflation fell in the same two years the rate rose, so the rate rises caused the fall
6. 5.

   A writer says the Fed's rate rises raised unemployment from 3.5 percent in December 2022 to 4.1 in December 2024. Kira tests it. What is the best reading?

   • Shown: the rate rose in 2022 and 2023 and unemployment rose after it, so the rate caused it
   • Refuted: unemployment of 4.1 is below 2021's 3.9, so it did not rise
   • Refuted: the rate fell from 5.33 to 4.48 in 2024, so higher unemployment came from cuts
   • Not shown: unemployment rose 0.6 points, but the table cannot show the rate caused it

7. Note

   Brant is a made-up town. Card A: In the market for loans, the interest rate is the price of borrowing and the quantity is the dollars lent per year. Before any change, the rate was 5 percent and banks lent $100 million. Card B: A Fed rate rise reduces the money banks supply to lend at each interest rate (supply falls). Card C: A business boom makes firms want to borrow more at each rate (demand rises). Card D: A different move, a Fed rate cut, raises the money banks supply to lend at each rate. Card E (in our words): Open market operations are the Fed's purchases and sales of Treasury securities. When the Fed buys, it pays by adding to banks' reserve balances at the Fed; when it sells, those balances fall. More reserves tend to lower short-term interest rates; fewer tend to raise them. Card F (Federal Reserve Board): Reserve requirement ratios were reduced to 0 percent, effective March 26, 2020. Card G (in our words): The Fed's two goals are maximum employment and stable prices. Higher interest rates reduce borrowing and spending; lower rates raise them.

8. 6.

   Later data show the boom's increase in demand is larger than the Fed's cut in supply. What happens to the rate and to lending, Noah asks?

   • The rate rises and lending falls below $100 million, since the Fed's move decides the outcome
   • The rate and lending both rise, since the gain in demand outweighs the fall in supply
   • The rate stays at 5 percent, because the two shifts offset each other in the price
   • The rate falls and lending rises, because banks compete to lend to the booming firms
9. 7.

   The Fed cuts its rate (card D) while the boom continues (card C). Ren predicts the loan market. Which prediction is certain?

   • The rate falls, because the Fed's cut raises the money banks have to lend
   • Neither can be told, since one shift pushes the rate up and the other pushes it down
   • Lending rises; the rate may rise, fall or stay at 5 percent, depending on the sizes
   • The rate rises and lending falls, since a booming economy raises borrowing costs
10. 8.

    Tala compares two Fed actions using card E. Which action adds reserves to the banking system, and what is it meant to do?

    • Raising the IORB adds reserves, since banks earn more interest on the money they keep
    • Selling securities adds reserves, which tends to lower short-term rates and support spending in the economy
    • Buying securities adds reserves, which tends to lower short-term rates and support spending
    • Buying securities takes reserves out, which tends to raise short-term rates and slow spending down
11. 9.

    Since March 2020, reserve requirements have been 0 percent (card F). Zee asks what that implies. Which statement is best supported?

    • A required ratio no longer limits how much banks can lend; the Fed's rate tools do the steering
    • Banks can lend without limit, because with no requirement nothing limits loans
    • Banks must now hold exactly zero reserves, since the requirement fell to 0 percent
    • The Fed lost its ability to affect lending, because the requirement was its main tool
12. 10.

    Unemployment is rising while inflation is above 2 percent. Ari asks why the Fed's two goals in card G pull apart. Which reason fits?

    • A rate cut fights inflation and a rate rise helps jobs, which is why the goals conflict
    • The goals conflict whenever rates change, so the Fed cannot pursue both goals at once
    • A rate rise cools prices but can cost jobs, while a cut helps jobs but can fuel prices
    • The goals do not conflict, because lower inflation brings lower unemployment too