Central Banks Flashcards
What is a central bank?
A financial institution in a country that is typically responsible for the printing and issuing of notes and coins.
What is the central bank in the UK?
The Bank of England.
What are the 4 functions of a central bank?
1) Implementation of monetary policy.
2) Banker to the government.
3) Banker to the banks.
4) Role in the regulation of the financial sector.
What is monetary policy?
The government’s manipulation of interest rates and the money supply to achieve its economic objectives.
How can a central bank implement monetary policy (3)?
1) Manage the money supply by setting the availability of credit or its cost (through the setting of interest rates).
2) Influence the amount of lending banks provide by setting capital requirements that banks must keep.
3) Affect the exchange rate through the buying and selling of currencies and by changing the interest rate.
How does a central bank operate as a banker to the government (3)?
1) The central bank manages the national debt of the government (e.g. by issuing bonds).
2) It handles the accounts of different government departments.
3) It makes short-term loans to governments.
How does a central bank operate as a banker to the banks?
The central banks support commercial banks by operating as a lender of the last resort. Banks can run short on liquidity (having enough money to pay for liabilities), so central banks lend them money.
Why is regulation of the financial sector needed (2)?
1) To prevent customers being negatively affected by risky behaviour of financial institutions.
2) To prevent systemic risk, where the financial system could collapse without intervention.
What 3 ways can central banks regulate the financial sector?
1) Making sure competition exists in financial markets, so consumers are not exploited.
2) Reserve requirements: banks have to have a certain % of assets in reserve, in order to cover potential losses.
3) Ensuring financial rules are followed by banks.
What are the effects on AD and inflation if the availability of credit changes (2)?
1) If it increases: AD and inflation increase.
2) If it decreases: AD decreases.
What are the effects on AD, inflation and investment if the amount of bank lending changes (2)?
1) If it increases: AD and inflation increase.
2) If it decreases: AD and investment decrease.
What are the effects on AD and inflation if the exchange rate changes (2)?
1) If it increases: AD and inflation decrease.
2) If it decreases: AD and inflation increases.
