In this article I will identify the three monetary tools used by the Federal Reserve. Furthermore, I will explain how these monetary instruments influence the money supply and, in turn, influence macroeconomic factors. Next, I will explain how money is created. Finally, I will recommend monetary policy combinations that best strike a balance between economic growth, low inflation, and a reasonable unemployment rate. Tools Used by the Federal Reserve to Control the Money Supply The three monetary tools used by the Federal Reserve to alter commercial bank reserves are: open market operations, reserve ratio, and discount rate (McConnell-Brue, 2004, chap. 15). The Federal Reserve's most powerful and flexible tool is open market operations. Open market operations occur when the purchase of government bonds from, or the sale of government bonds to, commercial banks and the general public (McConnell-Brue, 2004, ch. 15). The Federal Reserve can also influence the ability of commercial banks to lend by manipulating the reserve ratio. The reserve ratio is the amount that the Federal Reserve requires banks to maintain in their reserves. Increasing or decreasing the reserve ratio determines whether a bank has more or less money to lend (Federal Reserve, 2007). In the event that a major bank has unexpected or immediate needs for additional funds, the Federal Reserve can make short-term loans (McConnell-Brue, 2004, ch. 15). The discount rate is the interest rate that the Federal Reserve charges to borrow money (Federal Reserve, 2007). Tools Used to Influence the Money Supply and Influence Macroeconomic Factors When the Federal Reserve purchases securities on the open market, commercial banks' reserves are increased. This results in banks lending out their excess reserves, which in turn will increase the money supply. On the other hand, when the Federal Reserve sells securities in the open market to commercial banks or the public, bank reserves will be reduced and thus the nation's money supply will decrease (McConnell-Brue, 2004, ch. 15). The Fed can also manipulate the reserve ratio to influence the ability of commercial banks to lend” (McConnell-Brue, 2004, ch. 15). If the Federal Reserve increased the reserve ratio, this would increase the amount of reserve requirements a bank must keep on hand (McConnell-Brue, 2004, chap... 15).