Definition
Open market operations are the central bank's main day-to-day tool of monetary policy. They consist of buying and selling government bonds and similar securities in financial markets in order to change the amount of reserves in the banking system.
By altering the supply of bank reserves, the central bank steers short-term interest rates toward its target. This makes open market operations the practical lever behind announced policy rates.
Why it matters
How it works
When the central bank buys securities, it pays with newly created reserves. Bank reserves rise, the supply of money expands, and short-term interest rates fall, encouraging borrowing and spending. When it sells securities, reserves drain out, money tightens, and rates rise.
This is expansionary or contractionary policy in action. Lower rates stimulate investment and consumption, raising aggregate demand; higher rates restrain them. Large-scale asset purchases extend the same idea to longer-term securities when short rates are already near zero.