Central banks and monetary policy go hand-in-hand. While a number of these mandates and goals are very similar between the world’s financial institution, each has their own unique set of goals brought on by their distinctive economies.
Monetary policy boils right down to promoting and maintaining price stability and economic process.
To achieve their goals, central banks use monetary policy mainly to regulate the following:
- the interest rates tied to the cost of money,
- the rise in inflation,
- the money supply,
- reserve requirements over banks (the portion of depositors’ balances that commercial banks must wear hand as cash)
- and lending to commercial banks (via the discount window)
Monetary policy are often mentioned during a couple alternative ways.
Contractionary or restrictive monetary policy takes place if it reduces the dimensions of the cash supply. It also can occur with the raising of interest rates.
The idea here is to slow economic process with the high interest rates. Borrowing money becomes harder and more expensive, which reduces spending and investment by both consumers and businesses.
Expansionary monetary policy, on the opposite hand, expands or increases the cash supply, or decreases the rate of interest.
The cost of borrowing money goes down in hopes that spending and investment will go up.
Accommodative monetary policy aims to make economic process by lowering the rate of interest, whereas tight monetary policy is about to scale back inflation or restrain economic process by raising interest rates.
Finally, neutral monetary policy intends to neither create growth nor fight inflation.
The important thing to recollect about inflation is that central banks usually have an inflation target in mind, say 2%.
They might not begin and say it specifically, but their monetary policies all operate and specialize in reaching this temperature .
They know that some inflation may be a good thing, but out-of-control inflation can remove the arrogance people have in their economy, their job, and ultimately, their money.
By having target inflation levels, central banks help market participants better understand how they (the central bankers) will affect the present economic landscape.