Central Banks and Monetary Policy Flashcards
What is monetary policy and central bank?
Monetary policy is used to control the money flow of the economy. This is done with interest rates and quantitative easing. This is conducted by the Bank of England, which is
independent from the government.
- The central bank takes action to influence the manipulation of interest rates, the supply of money and credit, and the exchange rate.
What are the main functions of Central Bank?
The central bank manages the currency, money supply and interest rates in an economy
- The central bank can regulate bank lending to ensure there is stability in the financial
system.
What are the functions of Central Bank?
Implementation of monetary policy:
The central bank takes action to influence the manipulation of interest rates, the supply of money and credit, and the exchange rate.
In the UK, the Monetary Policy Committee (MPC) alters interest rates to control the supply of money. They are independent from the government, and the nine
members meet each month to discuss what the rate of interest should be. Interest rates are used to help meet the government target of price stability, since it alters
the cost of borrowing and reward for saving.
- The bank controls the base rate, which ultimately controls the interest rates across
the economy.
What are the functions of the central bank?
Implementation of monetary policy
The central bank takes action to influence the manipulation of interest rates, the supply of money and credit, and the exchange rate.
In the UK, the Monetary Policy Committee (MPC) alters interest rates to control the supply of money. They are independent from the government, and the nine
members meet each month to discuss what the rate of interest should be. Interest rates are used to help meet the government target of price stability, since it alters the cost of borrowing and reward for saving.
The bank controls the base rate, which ultimately controls the interest rates across the economy
What are the functions of the central bank?
Banker to the government:
The central bank provides services to the Central Government. It collects payments to the governments and makes payments on behalf of the government. It maintains
and operates deposit accounts of the government. The central bank also manages public debt and issues loans.
The Bank can also advise the government on finance, including the timing and terms
of new loans.
What is the monetary policy?
It involves the central bank taking action to influence interest rates the supply of money and credit and the exchange rate
What is Policy objective?
The target that the Bank of England aims to hit
What is policy instrument?
The tool of control used to try to achieve the objective
What are the objectives of monetary policy set by the government?
- In the Uk the MPC altrs interest rates to control the supply of money.Interest rates are used to help meet the government target of price stability since it alters the cost of borrowing and reward for saving.
- Banks control the base rate which controls the interest rate across the economy
- When interest rates are high, the reward for saving is high and the cost of
borrowing is higher. This encourages consumers to save more and spend less,
and is used during periods of high inflation. When interest rates are low, the reward for saving is low and the cost of
borrowing is low. This means consumers and firms can access credit cheaply,
which encourages spending and investment in the economy. This is usually
used during periods of low inflation.
What is the evaluation?
However, during the financial crisis, the
UK interest rate fell to a historic low of 0.5%, and has been at this rate since
March 2009. Despite high inflation, the interest rate was set at a low rate to
stimulate AD and boost economic growth.
What are the objectives?
Funding for lending: UK banks faced
higher funding costs. In order to support them, the government introduced
the Funding for Lending Scheme, which aimed to lower these costs and
provide cheap funding to banks and building societies
What are the objectives?
Purchase to increase money supply: This is used to help to stimulate the economy when standard monetary policy is no longer effective. This has an inflationary effect since it increases the money supply and it can reduce the value of the currency.
What is monetary policy instrument?
Tools such as Bank rate which are used to try to achieve monetary policy objectives.
What are the factors considered by the MPC when setting bank rate?
-Unemployment rate: If unemployment is high, consumer spending is likely to fall. This suggest the MPC will drop interest rate to encourage more spending
Saving rate
If there is a lot of saving consumer are not spending much. Interest rate might fall
Consumer spending
If there is a high level of spending in the economy there
High commodity prices
Since the UK is a net importer of oil, a high price could lead to cost-push inflation.This could push the MPC to increase the interest rate to overcome this inflationary pressure.
Exchange rate
A weak pound would cause the average price level to increase. This makes the UK export cheap so the UK export increase. SInce imports become more expensive there would be an increase in net exports. The MPC might consider increasing the interest rate.
How does changes in exchange rate affect AD and the macroeconomic policy objectives
A reduction in the exchange rate causes exports to become cheaper, which
increases exports. This assumes that demand for exports is price elastic. It
also causes imports to become relatively expensive. This means the UK
current account deficit would improve.
What is the evaluation?
- However, this is inflationary due to the increase in the price of imported raw materials. Production costs for firms increase, which causes cost-push inflation.
How does changes in exchange rate affect AD and the macroeconomic policy objectives
An increase in interest rates, relative to other countries, makes it more attractive to
invest funds in the country because the rate of return on investment is higher. This increases demand for the currency, causing an appreciation. This is known as hot money.
