Monetary policy

Question 1

What is monetary policy?

Answer 1

Involves controlling the macroeconomy via changes in the monetary variables such as the money supply or interest rates

Question 2

What is an interest rate?

Answer 2

The cost of borrowing or the reward of saving

Question 3

If interest rates are high, what will happen to AD? Why?

Answer 3

Fall

Borrowing has become more expensive

Question 4

If interest rates are low, what will happen to AD? Why?

Answer 4

Rise

Borrowing has become cheaper

Question 5

What is the real interest rate?

Answer 5

The money rate of interest minus the rate of inflation

Question 6

What happens when the banks base interest rate rises?

Answer 6

High street banks will increase their rates = discourages loans = discourages investment = encourages consumers to save = decrease in AD

Question 7

What are the limitations of using interest rates to influence AD?

Answer 7

Time lag

Consumer confidence

Question 8

How long is the time lag associated with changing the interest rate?

Answer 8

2 years

Question 9

What are the impacts of changes in interest rates on AD? (6) (HDCCIE)

Answer 9

The housing market 
Disposable incomes for mortgage payers 
Consumer demand for credit 
Consumer and business confidence 
Business investment 
Effects upon the exchange rate

Question 10

How does the change of interest rates impact the housing market? What happens to AD

Answer 10

High interest rate = higher cost of mortgages = fall in AD

Question 11

How does the change of interest rates impact the disposable income of mortgage payers? What happens to AD?

Answer 11

Higher interest rate = lower disposable income = fall in AD

Question 12

How does the change in interest rates impact the consumer demand for credit? What happens to AD

Answer 12

Higher interest rate = higher cost of credit = fall in AD

Question 13

How does the change in interest rates impact consumer and business confidence? What happens to AD?

Answer 13

Lower interest rate = better confidence = rise in AD

Question 14

How does the change in interest rates impact business investment? What happens to AD?

Answer 14

Higher interest rate = low confidence = less investment = fall in AD

Question 15

How does the change in interest rates impact the effects upon the exchange rate? What happens to AD?

Answer 15

Higher interest rate = appreciation = more imports = fall in AD

Question 16

What is the repo rate?

Answer 16

The interest rate that is set by the MPC in order to influence inflation

Question 17

What is the CPI?

Answer 17

A measure of the price level

Question 18

What is the money supply?

Answer 18

The total amount of money in an economy

Question 19

What is an exchange rate?

Answer 19

The price of a currency expressed in terms of another currency

Question 20

What is narrow money?

Answer 20

Notes, coins and balances available for normal transactions

Question 21

What is broad money?

Answer 21

Money that is held in banks and building societies but that is not immediately accessible

Question 22

What is hot money?

Answer 22

Money that is liable to rapid transfer from one country to another?

Question 23

If the UK increases its interest rates, what will happen to the exchange rate? Why?

Answer 23

Higher interest rate = attracts hot money = increase demand for pounds = appreciation

Question 24

What are the advantages for a strong pound? (4)

Answer 24

Cheaper imports for consumers
Lower cost of production
Lower inflation
Lower interest rates

Question 25

What are the disadvantages for a strong pound? (3)

Answer 25

Increases the trade deficit
Slow economic growth
Decrease in investment