Question

The Senator of USA launched the COVID-19 business alleviation program in collaboration with the Small Scale Business, Trade Associations, and some selected banks. Under the program, tthe senator is giving funds without interest to selected financial institutions for onward lending to businesses at a 3% interest. The program is aimed at helping beneficiaries to sustain their businesses during the Covid-19 pandemic. Use this information to answer the following questions.

1. Explain in your own words, the monetary policy tool being used by the senator under this program.
2. If the Senator had pegged the interest rate under the program at the monetary policy rate, will this have been a better way of setting the rate? Explain the advantages and disadvantages of each scenario.  
3. Explain the expected impact of the low-interest rate program on gross domestic product (GDP), articulating the possible pathways.

Answer 1

a) Senators have decided to provide direct funds to selected financial institutions. so the job of those financial institutions is to provide small business loans at a 3% interest rate. so this is coming under direct lending to the bank. This is not a usual types of monetary policy as the situation is not favorable so in this crisis, only this type of monetary policy can be adopted to help small businesses.

b) senator has set or pegged the interest rate at the time of lending then it will be more effective than without pegging the advantage of pegging is there will be uniformity in this process of lending. the disadvantage of not having a pegging can create disturbances in the accounting process.

c) if there is a low-interest rate in terms of expansionary monetary policy then a lower interest rate will increase the loan amount and investment will be increased. that will adjust the GDP to maintain a potential level.

Expansionary monetary policy