Question

Differentiate between direct and indirect monetary control/policy by Central Bank

Answer 1

The direct monetary policy instruments acts by directly impacting the banks ability to lend or borrow and further circulate money by putting ceiling on certain bank lending, or the central bank can also cap the amount of loan to a certain amount to any industry or particular sector. Direct monetary policy tools can also involve the direct action like increasing or decreasing the reserve requirement be it cash reserve ratio or statutory reserve ratio or direct lending to any particular bank or sector. The indirect monetary policy instruments are supposed to act as an instrument in which the central bank wants to impact the banks’ lending or borrowing activity by intervening in the market. Open market operation is one of the examples of indirect monetary policy tools. When the central bank wants to increase the money supply into the system it will buy treasury bills and when it wants to reduce the money supply it will sell the treasury bills in the market. The indirect policy instrument is also discount rate or interest rate setting by the federal open market committee. The major difference between the direct and indirect is in direct policy bank directly impact the operation of banks and money supply in the system where as in indirect central bank intervenes through the market.