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The Role of Monetary Policy
Monetary policy and its effects on the economy
The Role of Monetary Policy
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The Overnight Policy Rate (OPR) The Overnight Policy Rate (OPR) is the interest rate that commercial banks charge for lending excess reserve to another commercial bank. Central Bank of Malaysia (BNM) determines the OPR. According to the article Monetary Policy Meeting (n.d.), “The reason why Malaysia uses OPR as one of its monetary policy is because OPR triggers a chain of many events such as: the Base Lending Rate (BLR), short-term interest rates, fixed deposit rate, foreign exchange rates, long term interest rates, the amount of money and credit and ultimately a range of economic variables, including unemployment, output, price levels and inflation which are the micro and macro factors on the economics of Malaysia.” The other three tools are Discount Rate, Reserve Requirements (R.R) and Open Market Operations (OMO). By using the three other tools, the BNM influences the demand for, supply of, balances that depository institutions hold at BNM and in this way it alters the OPR. Giving an example, if the discount rate is lowered, it reduces the cost of borrowing of consumers from commercial banks and this encourages commercial banks to borrow reserves from the BNM. With that being said, OPR decreases and thus it increases the money supply in the economy. This applies when unemployment rates are high and when a country is facing recession. On the other hand, if BNM were to increase the discount rates then thus it increases the cost of borrowing of consumers from commercial banks and there will be less demand of excess reserves because the OPR will increase. This applies when the country is facing inflation. The following graph shows the relation between BLR and OPR. Graph of OPR and BLR Retrieved from: http://www.bebas-hutang... ... middle of paper ... ...towards neutralizing the monetary conditions and preventing the risk of financial imbalances that could destabilize the economy recovery process. At the new level of the OPR, the standpoint of monetary policy continues to remain supportive to the economic growth. In conclusion, BNM raise OPR in order to overcome inflation and in opposed to recession, BNM reduces the OPR. Works Cited Financial Glossary: Monetary Policy Meeting. (n.d.). Retrieved March 30, 2011, from http://www.realestateagent.com.my/Financial%20Glossary/Monetary%20Po licy%20Meeting.htm. OPR Decisions & Statements: Monetary Policy Statements. (2008). Retrieved April 3, 2011, from http://www.bnm.gov.my/microsites/monetary/0401_20081124.htm. OPR Decisions & Statements: Monetary Policy Statements. (2010). Retrieved April 3, 2011, from http://www.bnm.gov.my/microsites/monetary/0401_20100304.htm
the business needs to make up the costs and the only way to do this is
The second tool the Federal Reserve uses is the adjustment of the reserve ratio. The reserve ratio is the ratio of the required reserves the commercial bank must keep to the bank’s own outstanding checkable-deposit liabilities (Brue, 2004, p. 254). By raising and lowering the ratio, the Fed can control how much the commercial banks can lend. For example, if the Fed lowers the reserve ratio, commercial banks will now have more excess reserves allowing them to lend more money to businesses or individuals. Vice-versa, by increasing the ratio, the Fed forces the banks to lend less money due to having smaller excess reserves. If the bank is deficient in the amount of reserves it has, the bank is forced to reduce checkable deposits and, subsequently, reduce the money supply. It may also need to increase its reserves by selling bonds, which would also lower the money supply (Brue, 2004, p. 274).
The Board of Governors of the Federal Reserve System is responsible for the discount rate and reserve requirements, and the Federal Open Market Committee is responsible for open market operations. Using the three tools, the Federal Reserve influences the demand for, and supply of, balances that depository institutions hold at Federal Reserve Banks and in this way alters the federal funds rate. The federal funds rate is the interest rate at which depository institutions lend balances at the Federal Reserve to other depository institutions overnight.
Conducting the nation's monetary policy by influencing money and credit conditions in the economy in pursuit of full employment and stable prices.
The Federal Reserve System was founded by Congress in 1913 to be the central bank of the United States. The Federal Reserve System was founded to be a safer, more flexible, and more stable monetary financial system. Over the years, the role of the Federal Reserve Board and its influence on banking and the economy has increased. Today, the Federal Reserve System's duties fall into four general categories. Firstly, the FED conducts the nation's monetary policy. The FED controls the monetary policy by influencing credit conditions in the economy. The FED measures its success in accomplishing these goals by judging whether or not the economy is at full employment and whether or not prices are stable. Not only does the FED control monetary policy by influencing credit conditions in the economy, it also supervises and regulates banking institutions to ensure the safety and soundness of the nation's banking and financial system. The FED protects the credit rights of consumers. Thirdly, the FED maintains the stability of the financial system by controlling the risk that may arise in financial markets. Fourthly, it is also the Federal Reserve System's responsibility to provide certain financial services to the U.S. government, to the public, to financial institutions, and to foreign official institutions, including playing a major role in operating the nation's payments system. Before Congress created the Federal Reserve System, periodic financial panics had plagued the nation. These panics had contributed to many bank failures, business bankruptcies, and general economic downturns. A particularly severe crisis in 1907 prompted Congress to establish the National Monetary Commission, which put forth proposals ...
During a normal recession, critics would be correct in their claims that monetary policy would be ideally suited to smoothing the business cycle. However, due to the financial crisis, many standard monetary tools have been exhausted, necessitating extraordinary fiscal stimuli. The ARRA and other discretionary fiscal measures have been successful in staving off a further reduction in employment and GDP, and the current recession has demonstrated that fiscal policy has been effective at enacting economic recovery.
What the world needs now is Money Sweet Money"; that is not the way the song goes however that is surely the way our world and economy does. Money and its importance relative to the US Government have always been difficult to figure out especially when it comes to interest rates. Due to our Federal Reserve System, its chairman Alan Greenspan, and his Board of Governors dedicated to seeing that our economy blossoms, those doubts have become a thing of the past, for now.
In the study of macroeconomics there are several sub factors that affect the economy either favorably or adversely. One dynamic of macroeconomics is monetary policy. Monetary policy consists of deliberate changes in the money supply to influence interest rates and thus the level of spending in the economy. “The goal of a monetary policy is to achieve and maintain price level stability, full employment and economic growth.” (McConnell & Brue, 2004).
Monetary and fiscal policy and their applications to the third world countries with a huge informal sector
The first major aspect of the monetary policy by the Federal Reserve is its interest rate policy. This interest rate policy is mainly determined by the figure for the federal funds rate, which is the rate at which commercial banks with balances held within the Federal Reserve can borrow from each other overnight in ord...
Even before the creation of the Federal Reserve, banks were used by the public just as we use them today. Deposits were made into savings accounts. Loans were taken out to mortgage a home or finance a new business. Banknotes were issued and spent when the public borrowed from the banks. Borrowers spent these banknotes just as paper money is spent today. These bank notes were valued as money since they were backed by the promise that they would be exchanged on demand for either gold or silver.
There are several factors affecting the money supply: spread between the discount rate and federal funds rate, required reserve ratio and open market operations. It is very important to understand that whenever the "DR charged by Fed is lower than the FFR charge by other banks; banks tend to borrow from the Fed.
Interest rates and the effects of interest rates on the economy concern not only macroeconomists but consumers, savers, borrowers, and lenders. A country may react and change their interest rates, according to the prosperity of their economy. Interest rates, is the percentage usually on an annual basis that is paid by the borrower to the lender for a loan of money (Merriam-Webster). If banks decided not to use interest rates, it would be impossible for others to be able to take out loans and therefore, there would be far less spending money in the economy. With interest rates, this allows banks to take a percentage of the consumer’s money and loan it out to others, thus allowing economic growth to be possible. Interest rates also allow lenders to have a “safety net” which is necessary because there is a possibility that the borrower would be unable to pay back a loan to the bank. A nation’s interest rates can be raised or lowered and these shifts in interest rates correlate directly to aggregate demand. Aggregate demand, is the total demand for final goods and services in an economy at a given time (Business Dictionary). A nation uses interest rates for economic growth or to help prevent inflation. When economic growth is needed a nation would lower their interest rates. However, if a country is concerned about inflation, they may choose to raise their interest rates. When interest rates, raised or lowered, will have a negative or positive impact on consumers, and have a positive or negative impact on investors.
When an economy is in a recession the government has to act differently in order to increase demand and help businesses survive. The money supply method of the monetary policy is a good idea in theory but because of the current economic crisis, banks don’t feel secure enough to lend out there money as the return isn’t guaranteed.
It is difficult for government to achieve all the macroeconomics objectives at the same time. Conflicts between macroeconomics objectives means a policy irritating aggregate demand may reduce unemployment in the short term but launch a period of higher inflation and exacerbate the current account of the balance of payments which can also dividend into main objectives and additional objectives (N. T. Macdonald,