Role Of Central Bank & Financial Regulation

Question 1

Define a central bank

Answer 1

A public institution that manages the currency of a country or a group of countries and controls the money supply (amount of money in circulation)

Question 2

State and explain the responsibilities of the Central Bank

Answer 2

• Issuing bank notes and managing the UKs currency: only the BoE can issue notes, these notes include anti-forgery features
• Maintaining monetary stability: to deliver stable prices and confidence in the UKs currency by managing inflation and the currency reserve
• Maintaining financial stability: help the system run smoothly
• Banker to the government: The government holds deposits in the central bank and acts as a lender of last resort to provide liquidity
• Lender of last resort: Lends money to banks to ensure that they do not fail

Question 3

Advantages of a Central Bank acting as a lender of last resort

Answer 3

• To protect savers by dosing so they can maintain the publics confidence in the financial system
• Prevents financial panics creating a negative multiplier
• Prevents the government from using tax payers money as new money is created by quantitive easing

Question 4

Disadvantages of a Central Bank acting as a lender of last resort

Answer 4

• Moral hazard, as retail banks know that they can be bailed out they may make very risky decisions
• Inflation and the government bond yield will decrease harming pensions as interest rates fall

Question 5

Define Central Bank independence

Answer 5

The freedom of the central bank from direct political and government influence in the conduct of policy

Question 6

How independent is the Bank of England

Answer 6

The government granted full operational responsibility of monetary policy to the BoE in 1997

Question 7

How independent is the European Central Bank

Answer 7

They have a goal of price stability but are less tolerant of them going above the inflation target (asymmetrical inflation targeting)

Question 8

How independent is the Federal Reserve

Answer 8

They have the most freedom and have very vague goals of maximum employment, stable prices and moderate long term interest rates

Question 9

How independent is the Bank of Japan

Answer 9

They are not very independent as government officials are able to attend meetings but have no voting rights. The government has ways to influence monetary policy

Question 10

Arguments for Central Bank independence

Answer 10

• more credibility

- improved future expectations about inflation as people believe that the central bank will keep inflation low

Question 11

How independent is the Bank of Japan

Answer 11

They are not very independent as government officials are able to attend meetings but have no voting rights. The government has ways to influence monetary policy

Question 12

Arguments for Central Bank independence

Answer 12

• more credibility

- improved future expectations about inflation as people believe that the central bank will keep inflation low