MONETARY POLICY Flashcards
describe the monetary policy committee
made up on 9 members who decide what monetary policy action to take
functions of the bank of england
- issuing bank notes and managing uk currency
- providing monetary stability
- providing financial stability to reduce risks of the uk’s financial system
features of monetary policy
- setting interest rates
- exchange rate
- availability of credit
objectives of monetary policy
- reduce inflation to 2%
- full employment and steady economic growth
factors that affect future inflation
- consumer spending and confidence
- business investment and confidence
- exchange rate
- house prices
- labour market (unemployment etc)
impact of increasing interest rates (contractionary policy)
- if BOE concerned that inflation is too high, the MPC will increase IRs
= make savings more attractive and reduce consumption
= reduce AD as people will earn more money back, the more they save
= reduce inflationary pressure
BUT - can lead to reduction in real national output
= damage economic growth and employment
impact of reducing interest rates (expansionary policy)
- if BOE worried about slow economic growth and low inflation MPC will reduce interest rates
define quantitative easing
increases the availability of liquid funds for banks so that they are more willing to lend money
define liquid funds
a type of Debt Mutual Funds that mainly invest in short-term debt securities, offering fixed returns
describe bonds
where an investor lends money to a company or gov for a set period of time, in exchange for regular interest payments
= once the bond reaches maturity, the bond issuer returns the investor’s money
process of QE
the BoE creates new money to buy bonds from financial institutions.
The money (liquid cash) can be lent out to create credit & increase AD
list the effects of QE
- CB has bought assets from institutions= these institutions now have a lot of cash
- rather than letting the cash sit around, institutions should be more willing to lend out money to people and businesses
= competition between banks should also lower the interest rates they charge
= cause spending in an economy to increase because more people are given loans that they spend
adv of monetary policy
- effects AD equation of investment, consumption and exports= create a positive multiplier= more growth
- dual impacts on AD and AS= more investment to increase quantity and qual of capital= increase LRAS= increase capacity of economy
disadvantage of expansionary MP
- lower IRs= increase AD= lead to demand-pull inflation
- change in interest rates= goes through transmission mechanism= cause time lag
- reactions by consumers and firms may not be as expected= just cause Its increase, can’t force ppl to spend money
- low IRs= increase AD= more growth= incomes rise= spending more on imports= widen current account deficit
- low IRs= rate of return on savings falls= incentive to borrow and spend= less savings= big risk for ppl eg if get fired= no backup money
evaluate effectiveness of monetary policy (depends on)
- size of output gap= if close to full employment w small output gap= low IRs won’t reduce unemployment
- AD depends on how high consumer confidence is= that they won’t lose their job etc= more likely borrow and spend when IR low
-high business confidence in expectations of future economy and AD for business= likely to invest - bank’s willingness to lend depends on banking crisis etc and confidence
- size of rate cut given by the bank= bigger cut means its cheaper to borrow= promote consumption and investment = extra disposable income= more AD
- if debt is high relative to incomes= raising interest rates is more likely to harm consumer’s SOL= more likely to be unable to repay debts= financial stability risks may be greater
- interest rate changes can take up to two years to feed through to the rest of the economy
