Monetary Policy Quiz

Monetary policy refers to the policy adopted by the monetary authority of a nation to control either the interest rate payable for very short-term borrowing or the money supply, often as an attempt to reduce inflation or the interest rate, to ensure price stability and general trust of the value and stability of the nation's currency. Monetary policy is a modification of the supply of money, i.e. "printing" more money, or decreasing the money supply by changing interest rates or removing excess reserves. Further purposes of a monetary policy are usually to contribute to the stability of gross domestic product, to achieve and maintain low unemployment, and to maintain predictable exchange rates with other currencies. Monetary policy is referred to as being either expansionary or contractionary. Expansionary policy maintains short-term interest rates at a lower than usual rate or increases the total supply of money in the economy more rapidly than usual. Contractionary policy maintains short-term interest rates greater than usual, slows the rate of growth of the money supply, or even decreases it to slow short-term economic growth and lessen inflation. The main monetary policy instruments available to central banks are open market operation, bank reserve requirement, interest rate policy, re-lending and re-discount, and credit policy. Through open market operations, a central bank influences the money supply in an economy. Each time it buys securities, it in effect creates money. Reserve requirements were introduced in the 19th century as an attempt to reduce the risk of banks overextending themselves and suffering from bank runs, as this could lead to knock-on effects on other overextended banks. Central banks can directly or indirectly influence the allocation of bank lending in certain sectors of the economy by applying quotas, limits or differentiated interest rates. To influence the money supply, some central banks may require that some or all foreign exchange receipts be exchanged for the local currency.Overview of Monetary Policy

• Monetary policy is a tool used by central banks to regulate the supply of money and credit in an economy.

• The main tool used to implement monetary policy is modifying the amount of base money in circulation.

• The different types of policy are also called monetary regimes, which include inflation targeting, price level targeting, monetary aggregates/money supply targeting, nominal income/NGDP targeting, and fixed exchange rate targeting.

• Inflation targeting is a policy approach to keep inflation within a desired range by adjusting the central bank interest rate target.

• Price level targeting is a monetary policy that offsets CPI growth over or under the long-term price level target in subsequent years.

• Monetary aggregates/money supply targeting is an approach based on a constant growth in the money supply.

• Nominal income targeting is a monetary policy that targets nominal income or nominal GDP.

• Fixed exchange rate targeting is based on maintaining a fixed exchange rate with a foreign currency.

• Nominal anchors for monetary policy include exchange rate targets, money supply targets, and inflation targets with interest rate policy.

• Forward guidance is a communication practice whereby the central bank announces its forecasts and future intentions to increase market expectations of future levels of interest rates.

• Unconventional monetary policy includes credit easing, quantitative easing, forward guidance, and signaling, used when interest rates are at or near 0% and there are concerns about deflation or deflation is occurring.

• Collateral policy regulates lending practices and otherwise restricts or regulates capital markets.

• Helicopter money is a proposal that central banks create money without assets as a counterpart in their balance sheet, which could be distributed directly to the population as a citizen's dividend.Monetary Policy: Definition, Objectives, Types, Tools and Trends

• Monetary policy refers to the actions taken by a central bank to regulate the supply of money and credit in an economy to achieve its macroeconomic objectives.

• The main objectives of monetary policy are to stabilize prices, promote economic growth, and maintain full employment.

• Central banks use various types of monetary policy, including inflation targeting, price-level targeting, money supply targeting, and exchange rate targeting.

• The tools of monetary policy include open market operations, discount rate policy, reserve requirements, and forward guidance.

• Central banks must maintain credibility to successfully implement monetary policy, which requires their independence from political influence.

• In international economics, optimal monetary policy considers how monetary policy should be conducted in interdependent open economies, while developing countries may have difficulty establishing effective monetary policy due to a lack of deep markets in government debt.

• Transparency has become a trend in monetary policy, with central banks adopting formal, public inflation targets to make outcomes more transparent.

• There is debate about whether monetary policy can smooth business cycles, with some economists from the new classical school contending that central banks cannot affect business cycles.

• Behavioral economics has highlighted the importance of taking into account the concept of bounded rationality in monetary policy decisions, as individuals and policymakers can be influenced by biases and heuristics.