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Monetary Policy MCQ 2

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Questions and Answers

What is the primary goal of central banks when adjusting interest rates to control the rate of inflation?

To increase the cost of credit and stimulate economic activity

To decrease the cost of credit and reduce demand

To decrease savings and increase consumption

To influence economic activity and hence the rate of inflation (correct)

What would a central bank do to discourage borrowing and reduce inflation?

Increase the reserve ratio

Implement quantitative easing

Increase the key interest rate (correct)

Decrease the key interest rate

What is the effect of quantitative easing on the economy?

Decreased borrowing and decreased demand

No effect on borrowing and demand

Increased borrowing and increased demand (correct)

Decreased economic activity and increased interest rates

What happens to the external value of the currency when a central bank implements quantitative easing?

It depreciates Signup and view all the answers

During an inflationary period, what would a central bank do to encourage savings?

Implement high interest rates Signup and view all the answers

What is the effect of decreasing the reserve ratio on the economy?

Banks can lend more and economic activity increases Signup and view all the answers

What is the primary tool used by central banks to adjust the money supply?

Quantitative easing Signup and view all the answers

What is the relationship between interest rates and the incentive to save?

Higher interest rates encourage savings Signup and view all the answers

During a period of deflation, what would a central bank do to encourage consumers to spend?

Implement low interest rates Signup and view all the answers

What is the ultimate goal of central banks when using monetary policy to control inflation?

To control the rate of inflation Signup and view all the answers

Study Notes

Monetary Policy to Control Inflation

Adjusting Interest Rates

Central banks adjust interest rates to influence economic activity and inflation
Increasing interest rates discourages borrowing, leading to a fall in demand and inflation
Decreasing interest rates encourages borrowing, stimulating economic activity and inflation

Effect on Savings

Adjusting interest rates influences the incentive to save
High interest rates during inflationary periods encourage savings
Low interest rates during deflationary periods discourage savings and encourage spending

Quantitative Easing (QE)

QE occurs when a central bank buys financial assets from commercial banks with newly created money
QE increases the money supply, leading to:
- Increased borrowing
- Increased demand and spending
- Lower interest rates
- Increased economic activity
- Depreciation in the external value of the currency

Credit Availability

Central banks can alter credit availability by adjusting the reserve ratio
Reducing the reserve ratio during economic downturns:
- Allows banks to lend more
- Stimulates economic activity
- Results in inflation

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Description

Learn how central banks adjust interest rates to control inflation and its effects on borrowing, economic activity, and savings.