IEM Curriculum Guide - Fedpolicy Market

The Iowa Electronic Markets

Predicting Federal Reserve Policy

Economics Curriculum Using the IEM FedPolicy Market

September 2000

Learning Objectives Predicting Federal Reserve Policy

Prior to this module, students should be able to:

 Describe and explain the economic significance of inflation, unemployment, and real GDP growth.  Analyze and explain the relationship among inflation, unemployment, and real GDP using the aggregate demand/aggregate supply model.  Describe the goals and objectives of Federal Reserve policy and the Federal Reserve’s policy instruments.  Use the aggregate demand/aggregate supply model to describe and explain how the Federal Reserve uses its policy instruments (in particular, the Federal Funds rate) to meet its policy goals and objectives.

Learning Objectives

At the end of this module, students should be able to:

 Summarize current national and regional economic conditions based on analysis of relevant macroeconomic data.  Analyze and describe current economic conditions using the aggregate demand/aggregate supply model.  Explain the current policy goals and objectives of the Federal Reserve with respect to inflation, the unemployment rate, and real GDP growth.  Use the aggregate demand/aggregate supply model to describe and predict Federal Reserve policy based on current economic conditions and the Federal Reserve’s policy goals and objectives.

Important Aspects of the Module

 Students retrieve and analyze economic data to construct a summary of current economic conditions in the economy.  Students link economic data and current events to economic theory.  Students combine data, theory, and analysis to construct policy predictions based on current policy goals and objectives.

FALL 2000 EDITION LAST EDITED ON 9/00 2 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Lecture Outline Predicting Federal Reserve Policy

1. Introduction: The Relationship Between Economic Policy and the State of the Economy

Policy Goals Recession and Inflation Offsetting Shifts in Aggregate Demand Offsetting (Negative) Shifts in Aggregate Supply A Self-Regulating Macro-Economy? – Potential GDP and the Natural Rate The “New Economy” and the Role of Economic Policy

2. Role of the Federal Reserve

Policy Goals and Objectives Policy Instruments: The Fed Funds Rate FOMC Meetings Effects of Federal Reserve Policy What can Fed Policy Accomplish?

3. Predicting Federal Reserve Policy

Summarizing Current Economic Conditions Recent Federal Reserve Behavior Predicting Federal Reserve Policy Example: The November, 1999 FOMC Meeting and the IEM FedPolicy Market

4. Summary

FALL 2000 EDITION LAST EDITED ON 9/00 3 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Lecture Notes Predicting Federal Reserve Policy

Note: The material in this section is adapted from material published on the Board of Governors of the Federal Reserve Web site.

Board of Governors Home Page http://www.bog.frb.fed.us/default.htm

Web links for additional related information are provided below:

The Structure of the Federal Reserve System http://www.bog.frb.fed.us/pubs/frseries/frseri.htm

Purposes and Functions of the Federal Reserve http://www.bog.frb.fed.us/pf/pf.htm

1. Introduction: The Relationship between Economic Policy and the State of the Economy.

Goals of Monetary Policy

Monetary policy has two basic goals: to promote "maximum" output and employment and to promote "stable" prices. These goals are prescribed in a 1977 amendment to the Federal Reserve Act of 1913.

In the long run, the level of output and employment in the economy depends on factors other than monetary policy. These include technology and people's preferences for saving, risk, and work effort. So, "maximum" employment and output means the levels consistent with these factors in the long run. But the economy goes through business cycles in which output and employment are above or below their long-run levels.

Even though monetary policy can't affect either output or employment in the long run, it can affect them in the short run. For example, when demand contracts and there's a recession, the Fed can stimulate the economy—temporarily—and help push it back toward its long-run level of output by lowering interest rates. Therefore, in the short run, the Fed and many other central banks are concerned with stabilizing the economy —that is, smoothing out the peaks and valleys in output and employment around their long-run growth paths.

Although monetary policy cannot expand the economy beyond its potential growth path or reduce unemployment in the long run, it can stabilize prices in the long run.

FALL 2000 EDITION LAST EDITED ON 9/00 4 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Price "stability" is basically low inflation—that is, inflation that's so low that people don't worry about it when they make decisions about what to buy, whether to borrow or invest, and so on.

In practice, the Fed, like most central banks, cares about both inflation and measures of the short-run performance of the economy.

The Federal Reserve’s Concern with Inflation

The Federal Reserve is concerned about high inflation because it can hinder economic growth. For example, when inflation is high, it also tends to vary a lot, and that makes people uncertain about what inflation will be in the future. That uncertainty can hinder economic growth in a couple of ways—it adds an inflation risk premium to long-term interest rates, and it complicates the planning and contracting by businesses and households that are so essential to capital formation.

High inflation also hinders economic growth in other ways. For example, because many aspects of the tax system are not indexed to inflation, high inflation distorts economic decisions by arbitrarily increasing or decreasing after-tax rates of return to different kinds of economic activities. In addition, it leads people to spend time and resources hedging against inflation instead of pursuing more productive activities.

Federal Reserve Policy: Offsetting Shocks to the Economy

Output, employment, and inflation are influenced not only by monetary policy, but also by such factors as our government's taxing and spending policies, the availability and price of key natural resources (such as oil), economic developments abroad, financial conditions at home and abroad, and the introduction of new technologies. In order to have the desired effect on the economy, the Fed must take into account the influences of these other factors and either offset them or reinforce them as needed. This isn't easy because sometimes these developments occur unexpectedly, and because the size and timing of their effects are difficult to estimate.

The 1997-98 currency crisis in East Asia is a good example. Over this period, economic activity in several countries in that region either slowed or declined, and this reduced their demand for U.S. products. In addition, the foreign exchange value of most of their currencies depreciated, and this made Asian–produced goods less expensive for us to buy and U.S.–produced goods more expensive in Asian countries. By themselves, these factors would reduce the demand for U.S. products and therefore lower our output and employment. As a result, this was a factor that the Fed had to consider in setting monetary policy.

Another example is the spread of new technologies that can enhance productivity. When workers and capital are more productive, the economy can expand more rapidly without creating inflationary pressures. During the past decade, there have been indications that the U.S. economy may have experienced a productivity surge, perhaps brought on by computers and other high-tech developments. The issue for monetary policymakers is how much faster productivity is increasing and whether those increases are temporary or permanent. The answer to that question may determine to what extent the Federal Reserve should intervene in the economy.

FALL 2000 EDITION LAST EDITED ON 9/00 5 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS 2. Role of the Federal Reserve

Monetary Policy Goals

The Federal Reserve’s monetary policy objective is to promote economic growth and high employment by maintaining stability in prices, interest rates, financial markets, and foreign-exchange rates.

Tools of monetary policy and Interest Rates

The Fed can't control inflation or influence output and employment directly; instead, it affects them indirectly, mainly by raising or lowering short-term interest rates. The Fed affects interest rates mainly through open market operations and the discount rate, and both of these methods work through the market for bank reserves, known as the federal funds market.

The Federal Funds Market and Monetary Policy

From day to day, the amount of reserves a bank has to hold may change as its deposits and transactions change. When a bank needs additional reserves on a short- term basis, it can borrow them from other banks that happen to have more reserves than they need. These loans take place in a private financial market called the federal funds market. The interest rate on the overnight borrowing of reserves is called the federal funds rate or simply the "funds rate." It adjusts to balance the supply of and demand for reserves. For example, an increase in the amount of reserves supplied to the federal funds market causes the funds rate to fall, while a decrease in the supply of reserves raises that rate.

The major tool the Fed uses to affect the supply of reserves in the banking system is open market operations—that is, the Fed buys and sells government securities on the open market. Suppose the Fed wants the funds rate to fall. To do this, it buys government securities from a bank. The Fed then pays for the securities by increasing that bank's reserves. As a result, the bank now has more reserves than it is required to hold. The bank can then lend these excess reserves to another bank in the federal funds market. Thus, the Fed's open market purchase increases the supply of reserves to the banking system, and the federal funds rate falls. When the Fed wants the funds rate to rise, it does the reverse; that is, it sells government securities. The Fed receives payment in reserves from banks, which lowers the supply of reserves in the banking system, and the funds rate rises.

The FOMC and Federal Reserve Policy

The Federal Open Market Committee (FOMC), consisting of seven members of the Board of Governors of the Federal Reserve System, the president of the Federal Reserve Bank of New York, and four additional Federal Reserve bank district presidents, holds eight regularly scheduled meetings per year to direct the conduct of open market operations in a manner designed to foster the long-run objectives of price stability and sustainable economic growth.

FALL 2000 EDITION LAST EDITED ON 9/00 6 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS The Effects of Monetary Policy on the Economy

The point of implementing policy through raising or lowering interest rates is to affect people's and firms' demand for goods and services. Changes in real interest rates affect the public's demand for goods and services mainly by altering borrowing costs, the availability of bank loans, the wealth of households, and foreign exchange rates. For example, a decrease in real interest rates lowers the cost of borrowing and leads to increases in business investment spending and household purchases of durable goods, such as autos and new homes. In addition, lower real rates and a healthy economy may increase banks' willingness to lend to businesses and households. This may increase spending, especially by smaller borrowers who have few sources of credit other than banks.

Lower real rates make common stocks and other such investments more attractive than bonds and other debt instruments; as a result, common stock prices tend to rise. Households with stocks in their portfolios find that the value of their holdings has gone up, and this increase in wealth makes them willing to spend more. Higher stock prices also make it more attractive for businesses to invest in plant and equipment by issuing stock. In the short run, lower real interest rates in the U.S. also tend to reduce the foreign exchange value of the dollar, which lowers the prices of the exports we sell abroad and raises the prices we pay for foreign-produced goods. This leads to higher aggregate spending on goods and services produced in the U.S. The increase in aggregate demand for the economy's output through these various channels leads firms to raise production and employment, which in turn increases business spending on capital goods even further by making greater demands on existing factory capacity. It also boosts consumption further because of the income gains that result from the higher level of economic output.

3. Predicting Federal Reserve Policy

When predicting Federal Reserve policy, it is important to understand the Federal Reserve’s policy objectives and the current state of the economy. For example, if inflation is rising and economic statistics indicate persistent economic growth, the Federal Reserve is likely to raise interest rates to slow spending in the economy and reduce inflationary pressures.

When deciding on policy changes, the Fed looks at a variety of indicators of the future course of output, employment, and inflation. Among the indicators are measures of the money supply, real interest rates, the unemployment rate, nominal and real GDP growth, commodity prices, exchange rates, various interest rate spreads (including the term structure of interest rates), and inflation expectations surveys.

The Fed balances the current state of these economic indicators against its policy goals and future expectations of economic activity derived from econometric models. For example, during 1999 and into 2000 the Fed became increasingly concerned about the possibility of future inflation arising from tight labor markets and rising consumer and business spending, despite few signs of current inflation. While initially the Fed, and in particular Alan Greenspan, supported keeping interest rates steady – citing increasing labor producivity that helped to keep labor costs and inflation low –

FALL 2000 EDITION LAST EDITED ON 9/00 7 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS the Fed eventually raised interest rates on multiple occasions in late 1999 and early- to-mid 2000 to slow the economy.

Predicting future Federal Reserve monetary policy changes requires (1) an understanding of the Federal Reserve’s policy objectives, and (2) a comprehensive picture of the current economic conditions in the macroeconomy. As new information is received on economic conditions in the economy, predictions of upcoming Federal Reserve policy actions can change, especially during periods when the future course of economic activity is uncertain. In these cases, each new piece of economic data that is released may play a critical role in determining Federal Reserve policy actions.

Note: For an example of how contract prices in the Iowa Electronic Markets change during such periods, please see the Powerpoint slides that accompany this curriculum guide.

FALL 2000 EDITION LAST EDITED ON 9/00 8 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Powerpoint Slides Predicting Federal Reserve Policy

Provided separately.

FALL 2000 EDITION LAST EDITED ON 9/00 9 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Federal Reserve Policy Assignment Part 1: Summarizing Current Economic Conditions DUE:

General Instructions for Completing this Assignment

Please follow the guidelines below as you work on this assignment.

1. This is a multi-part assignment. Each part of the assignment must be typed. Label clearly each part of theassignment with a cover page giving your name and section number.

2. Complete each part in a separate section clearly labeling them Part 1, Part 2, etc.

3. Within each section, give the requested information, including sources of information gathered.

4. Turn in your completed assignment to your instructor on the date it is due.

Goal: Part 1

In this assignment, you will learn to combine economic data with economic theory to summarize and illustrate current economic conditions in the economy.

Summarizing Current Economic Conditions Based on Economic Data

The first step in this assignment is to collect data and information on various measures of economic activity in the economy. Recent statistics on the unemployment rate, inflation rate, interest rates, wages, consumer spending, and real GDP will give you some feel for how the economy is currently performing. These statistics are often called “economic indicators” because of their ability to “indicate” the overall health of the economy. In addition to the raw data, it is useful to find out what other economic analysts (economists) are saying about the performance of the economy. Much of this information is available on the Web. Some useful starting points are provided below.

Use the data and information you collect to summarize the current state of the economy in 1-2 typewritten pages. The summary should provide the reader with a general overview of recent trends in the economy, as well as current economic conditions. Be sure to include a summary of (1) real GDP, (2) the Consumer Price Index and inflation rate, and (3) the unemployment rate, along with any other economic indicators that you believe help to illustrate the current health of the economy.

FALL 2000 EDITION LAST EDITED ON 9/00 10 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Note: This is precisely what the Federal Reserve does before each Federal Open Market Committee meeting. It summarizes the economic conditions in each of the Federal Reserve districts and publishes the summaries in a publication called the “Beige Book.” The Federal Reserve’s most recent Beige Book is available online at

http://www.bog.frb.fed.us/FOMC/BeigeBook/2000/default.htm

As you collect data and read economic analyses, keep the following questions in mind:

 What are the current rates of inflation and unemployment? Compared to the past year, have they been increasing or decreasing?

 Have overall economic conditions changed recently? In what way?

Some Starting Points For Finding Economic Information

ECONlinks: Economic Indicators http://www.ncat.edu/~simkinss/econindicators.html Provides links to current data on a variety of economic indicators.

The Dismal Scientist http://www.dismal.com/isapi/dismalhome.dll Current data and commentary on the economy.

Economic Analysis and Research from Bank of America http://corp.bankofamerica.com/research/e_economic_analysis___research.html Commentary and economic analysis on current economic trends in the U.S. economy.

Economic Information from First Union Bank http://www.firstunion.com/library/econews/ Reports on current economic conditions.

ECONlinks Business News http://www.ncat.edu/~simkinss/businessnews.html Links to business information provided by major U.S. news providers

Dow Jones News Services http://dowjones.wsj.com/n/economy.html Up-to-date information on the economy.

FALL 2000 EDITION LAST EDITED ON 9/00 11 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Relating Current Economic Conditions to Economic Theory using the AD/AS Model

Based on your results above, use the aggregate demand / aggregate supply model to illustrate current economic conditions (and changes in those conditions). Be sure to indicate whether you believe the economy is operating below the economy’s full employment level of real GDP (potential GDP), at the economy’s full employment level of real GDP, or beyond the economy’s full employment level of real GDP. Include evidence from the data and information you gathered from the Web to support your claims. Be sure to include references to any data or information that you use.

FALL 2000 EDITION LAST EDITED ON 9/00 12 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Federal Reserve Policy Assignment Part 2: Forecasting Federal Reserve Policy DUE:

Goal: Part 2

In this part of the assignment you will produce a forecast of future Federal Reserve policy based on current economic conditions, past Federal Reserve policy actions, and the Federal Reserve’s current policy goals and objectives.

Before You Start:

Read the Appendix to this Assignment, “Introduction to the IEM and the FedPolicy Market,” to familiarize yourself with the contracts that are offered in the IEM FedPolicy market. The prospectus for this market, along with other information related to the FedPolicy market is available at

http://www.biz.uiowa.edu/iem/markets/fedpolicy.html.

Summarizing Recent Federal Reserve Policy a. Visit the Board of Governors Web Site to obtain a copy of the minutes of the most recently available FOMC meeting (http://www.bog.frb.fed.us/fomc/). What is the date of this meeting? (Note: The Federal Reserve makes available the minutes of their FOMC meetings with a one meeting lag.) Provide a brief (one page) summary of the Federal Reserve’s view of economic conditions at the time of that FOMC meeting, the FOMC’s policy action at that meeting, and their view of likely future Fed policy actions. b. Visit the Board of Governors Web Site to obtain a copy of the “Press Release” from the most recent FOMC meeting (http://www.bog.frb.fed.us/boarddocs/press/BoardActs/2000/). Look for the most recent “FOMC Statement/Announcement” on this Web site. When did the FOMC last meet? What policy actions did the FOMC take at this meeting and what reasons did they provide to justify their position?

Forecasting Future FOMC Policy Actions

When is the next FOMC meeting? How have economic conditions changed since the two most recent FOMC meetings and how are these changes likely to affect Federal Reserve policy actions at the upcoming FOMC meeting? Describe briefly, based on current Federal Reserve policy goals, recent Federal Reserve policy actions, and your summary of economic conditions from Assignment 1. Use aggregate demand / supply analysis to illustrate recent changes in economic conditions and use this as the basis for your prediction of future Federal Reserve policy actions. What policy actions should the Federal Reserve take to meet its current policy goals and objectives? In particular, should the Federal Reserve raise, lower, or keep the federal funds rate the same at its next FOMC meeting? Explain.

FALL 2000 EDITION LAST EDITED ON 9/00 13 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Given your analysis, what FedPolicy contract should you buy on the Iowa Electronic Markets? Go to the FedPolicy market on the IEM. What are the current BID prices for the contracts listed there? Are these prices consistent with your analysis? Explain. What new information about the economy would cause you to change your forecast (and hence your recommendation about which contract in the FedPolicy market to purchase)? Explain.

FALL 2000 EDITION LAST EDITED ON 9/00 14 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Evaluation Questions Predicting Federal Reserve Policy

Short Answer Sample Questions

1. The figure below provides hypothetical information from the FedPolicy market of the Iowa Electronic Markets. Use this information to answer the questions below.

Trader: XXXXX Iowa Electronic Markets US$: X.XX 11/22/99 2:50:20 PM FedPolicy

Contract BestBid BestAsk LastPrice FRup1299 0.330 0.410 0.402 FRsame1299 0.651 0.720 0.720 FRdown1299 0.003 0.020 0.003

a. How is the "winning" contract determined in this market on the day the market closes?

b. If you wanted to obtain a share of the Frup1299 contract immediately at the cheapest price, how would you do it, given the information above? How much would you have to pay? Explain.

2. Note: This problem would need to be updated to include the most recent FedPolicy market information. The figures below are provided as an illustration.

The figure below provides information from the current FedPolicy market of the Iowa Electronic Markets. Use this information to answer the questions below.

Trader: XXXXX Iowa Electronic Markets US$: X.XX 11/22/99 2:50:20 PM FedPolicy

Contract BestBid BestAsk LastPrice FRup1299 0.052 0.099 0.052 FRsame1299 0.881 0.940 0.940 FRdown1299 0.003 0.020 0.003

The contract descriptions are provided below:

Name Description FRup1299 $1.00 if the fed-funds rate target rises on 12/21/99; $0 otherwise FRsame1299 $1.00 if the fed-funds rate target remains unchanged on 12/21/99; $0 otherwise FRdown1299 $1.00 if the fed-funds rate target falls on 12/21/99; $0 otherwise

FALL 2000 EDITION LAST EDITED ON 9/00 15 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS a. According to this information, what are IEM market participants expecting the Federal Reserve to do at its meeting in 12/99? Explain how you came to this conclusion. Why do IEM market participants have these expectations? Provide at least two reasons.

b. What type of new information about the economy could cause these bid and ask prices to change between now and the end of December (when these contracts liquidate)? Give an example and explain what effect this information would have on the bid and ask prices in this market and why.

Multiple-Choice Sample Questions

1. The decision-making arm of the Federal Reserve System is the a. Congressional Budget Office. b. Bureau of Economic Analysis. c. Federal Open Market Committee. d. Office of Management and Budget.

2. The actions of the Federal Reserve are often guided by the a. economic conditions of the country. b. Senate Banking Committee. c. the Budget Director in the office of the Presidency. d. the political party in power.

3. The Federal Reserve directly controls the a. unemployment rate. b. AAA Corporate bond rate. c. Government Bond Rate. d. Federal Funds Rate.

4. The Federal Reserve is responsible for the conduct of a. fiscal policy. b. monetary policy. c. tax policy. d. supply-side policy.

5. To increase spending in the economy, the Federal Open Market Committee is most likely to a. buy securities from the public through open market operations. b. sell securities to the public through open market operations. c. cut the tax rate. d. increase the federal funds rate.

6. To slow down the economy, the Federal Open Market Committee is most likely to a. buy securities from the public through open market operations. b. sell securities to the public through open market operations. c. cut the tax rate. d. reduce the federal funds rate.

FALL 2000 EDITION LAST EDITED ON 9/00 16 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS 7. If you expect the Federal Reserve to raise the interest rate, what type of contract would you be most likely to buy from the IEM FedPolicy Market? a. FRupMMYY b. FRdownMMYY c. FRsameMMYY d. A market “bundle”

8. If you expect the Federal Reserve to reduce the interest rate, what type of contract would you be most likely to buy from the IEM FedPolicy Market? a. FRupMMYY b. FRdownMMYY c. FRsameMMYY d. A market “bundle”

9. How many times does the Federal Open Market Committee meet each year? a. once a year b. twice a year c. four times d. about eight times

FALL 2000 EDITION LAST EDITED ON 9/00 17 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Appendix : The Iowa Electronic Markets and the FedPolicy Market

Overview

The Iowa Electronic Markets (IEM for short) is a computerized market on which financial contracts can be traded (bought or sold). This assignment refers to contracts traded in the Federal Reserve Monetary Policy Market, or “FedPolicy” for short. The contracts are briefly described in the next section and in more depth in the IEM Trader’s Manual. A detailed description of the FedPolicy market is available in the Prospectus, available at the IEM website:

http://www.biz.uiowa.edu/iem/markets/pr_FedPolicy.html

The assignment assumes that you have already obtained an IEM trading account and are familiar with how to log in to the IEM.

Federal Reserve Monetary Policy Market Contracts

The contracts in the FedPolicy market are based on policy decisions made by the Federal Reserve's Open Market Committee (FOMC) at their regular meeting. For each FOMC meeting, a set of contracts will be posted and liquidate based on the policy actions taken at the associated meeting. A schedule of planned FOMC meeting dates can be found at:

http://www.bog.frb.fed.us/fomc/

Contracts listed in this market will initially appear in sets of three, with each set referring to a particular FOMC meeting. The three contracts will represent the three possible FOMC decisions made at that meeting regarding the federal-funds rate target – to raise the target, to lower it, or to leave it unchanged. The initial listing will be for the FOMC meeting scheduled for month "MM" and year "YY" and will include the following three contracts:

Contract Contract Description / Liquidation Value

FRupMMYY $1.00 if the fed-funds rate target rises; $0 otherwise FrsameMMYY $1.00 if the fed-funds rate target remains unchanged; $0 otherwise FrdownMMYY $1.00 if the fed-funds rate target falls; $0 otherwise

Similar contracts for each FOMC meeting will be introduced at the discretion of the IEM Board of Governors. Note that, while these are the initial contracts, the IEM reserves the right to spin-off (or split) contracts. See the prospectus for complete details.

FALL 2000 EDITION LAST EDITED ON 9/00 18 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS Contract Liquidation

Liquidation values will be set according to the contract descriptions. For example, if, at the close of the regularly scheduled FOMC meeting in month/year MMYY, the FOMC announces a decision to raise the target for the federal-funds rate, then each FRupMMYY contract held by a trader will be redeemed for $1.00, while the FRsameMMYY and FRdownMMYY contracts will expire with a $0.00 redemption value.1

The practice of the FOMC, initiated at the May 18, 1999 meeting, has been to release a public announcement shortly after each regular meeting describing the funds rate target decision. The announcements for 2000 are posted at:

http://www.bog.frb.fed.us/boarddocs/press/General/2000/

The usual title for the announcement is “FOMC Statement.” So long as the Federal Reserve continues to publish its policy announcement publicly, this public announcement will be the official source of FOMC policy decisions for purposes of determining liquidation values. If no such statement is released by the FOMC, the Wall Street Journal will become the official source. Specifically, the most definitive statement of FOMC actions appearing in the three consecutive issues of the WSJ (Central Edition) after the close of the FOMC meeting will be taken as the policy decision. If the decision of the FOMC remains unclear even after three consecutive WSJ issues, the outcome "Fed-funds rate target remains unchanged" will be declared the result for purposes of determining liquidation values.

The judgment of the IEM Board of Governors will be final in resolving questions regarding the nature of the FOMC decision, including questions arising from typographical or clerical errors.

1 Note that liquidation values will depend solely on decisions made at the specific regularly scheduled FOMC meeting to change or not change the federal-funds rate target from its level as of the start of that same meeting. Neither changes in the federal-funds rate target made during the inter-meeting period nor decisions regarding other monetary policy issues or instruments will have any direct bearing on those liquidation values. FALL 2000 EDITION LAST EDITED ON 9/00 19 WWW.BIZ.UIOWA.EDU/IEM/ASSIGNMENTS