Question

What are the main goals of Monetary policy?

Answer 1

The following are the main goals of monetary policy:

1. Managing inflation - In laymen terms, Inflation means too much money chasing few goods. so in order to control the inflation level, the first and formost action adopted by the Central Bank is to control the flow of money to market. When bank rate is increased along with the reduction in the availability of credit facilities, dear money policy is adopted to wipe off the excess demand and thereby control inflation.(vice versa is also applicable in case of deflation)
2. Satabilizing employment levels - In case of defecit demand unwanted stocks tends to buid up. this will force producers to plan lesser production utlimately leading to a cut in planned Aggreate Supply (AS). This reduction in the level of planned out put will reduce the employment and the level of income; the economy is now caught in low level equilbrium trap. The moniteray policy helps in rectfying this sitaution.
3. Controlling long term interest rates - Bank rate is the rate at which the central bank lends money to the Commercial Banks - in case of excess demand, it is raised and lowered in case of defict demand.

Tools for Controlling Monitery Policy

• Open Market Operations - The Central bank buys securities during defict demand and sell them in opposite case.
• CRR - Cash Reserve Ratio - is the ratio between Cash Resrves of the Commercial Bank with the Central bank against its total Deposists that is to be lowered during deficiency of demand and the benchmark is incrased when the demand exceeds to usual rates.
• SLR - Satutoury Liquidatory Ratio - This is the ratio between Liquid Assets and the Total Assets of the Commercial Bank. (raised during excess demand and vice versa)
• Margin requirement - It is the minimum downpayment that the borrowers are to make as percentage of their total borrowings from the Commercial Banks ( raised during excess demand and vice versa)