Setting the Federal Funds RateThe Federal Reserve sets a target for the federal funds rate and uses open-market operations to achieve that target. In both panels the target rate is rT. In panel (a) the initial equilibrium interest rate, r1, is above the target rate. The Fed increases the money supply by making an open-market purchase of Treasury bills, pushing the money supply curve rightward, from MS1 to MS2, and driving the interest rate down to rT . In panel (b) the initial equilibrium interest rate, r1, is below the target rate. The Fed reduces the money supply by making an open-market sale of Treasury bills, pushing the money supply curve leftward, from MS1 to MS2, and driving the interest rate up to rT .