Monetary Policy Flashcards
What is the monetary policy?
Cash rate decisions taken by RBA to affect the monetary & financial conditions of an economy.
What does the RBA try to achieve through the monetary policy?
1) Price Stability (inf. 2-3%).
2) Full Employment (UE 4.5% of LF).
3) Economic Prosperity/welfare (SOL) - (Material welfare and rGDP per capita).
What is the cash rate?
The market interest rates for overnight finacial institutions.
Outline the transmission mechanism.
Change in CR - Change in market interest rates:
1) Cost of Borrowing + return of saving - consumption/saving/investment.
2) Cash Flow - C/I/NX - ch. AE - +/-K - ch. GDP - ch. inf.
3) Asset Value - d for assets + wealth/spending.
4) Exchange Rates - ird + FI + NX (property shares).
Outline specific monetary policy stances.
Expansionary (CR <3-3.5%) - Drop in CR - increase ea. - no risk of inflation/UE not bad. Increase EO.
Neutral (CR 3.5-4.25%) - Sit back - no implementation
Contractionary (CR >4.25%) - Rise in CR - decrease ea. - high inflation/employment. - Decrease EO.
What are the strengths of the monetary policy?
1) Politically Neutral - purely focused on economy
2) Effecrive in a boom - low inflation
3) Quick decision/implementation lag - RBA meets monthly on tuesdays; changes regularly occur
What are the weaknesses of the monetary policy?
1) Ineffective in a trough - increased economic activity
2) Blunt impact on all sectors
3) Longer impact/effect lag
4) Reliant on banks - pass change on ir
What are the contempary (last 3 years) monetary policy stances in Australia.
Last three years has been expansionary - multiple CR cuts (march 2020 2 cuts - 0.5 - 0.25). - current.
Why may the RBA influence the cash rate?
To change the cash rate; depands widely on demand and supply of loanable funds and to teh extent to which its 3 objetives are being achieved.
D for Loanable F’s - priv. sector (bus. I + res. housing I) + pub. sector (due to bud. deficit).
S for Loanable F’s - priv. sector (household S + bus. profits) + pub. sector (budget surplus).
Interest rates rise - if D rises and/or S falls
Interest rates fall - if D falls and/or S rises
How may different stances impact the level of economic activity (graph)?
Expansionary - increase employment and economic activity.
Neutral - N/A.
Contractionary - decrease inflation and economic activity to a sustainable level.
What is the current RBA policy package?
Expansionary Policy:
- RBA enters overnight $ market of loanable funds and increase the supply of funds … CR.
- Decrease CR
Reasons;
low level of economic activity, declie in real income/household consumption and an increase savings ratio, decline in investment, rise in unemploymet + UE, terms of trade (stabalise lower).
Outline the structure of the financial market - in relation to the monetary policy.
1) Households (savers) - supply credit - ir rise - savings rise - reward for S rises = OC of loans rise.
2) Financial Markets - Loans, bonds (gov. funding), shares (firms raising finance)
3) Firms (investors) - demand credit - ir rise - I falls - repayments become expensive = OC of borrowing rises.
A fall in CR - stimulates domestic investment, lowers ird - lowering foreign investment.
