Question

illustrate and EXPLAIN in great DETAILS of the expansionary and contractionary in which the RBA board might adopt monetary policy graphs as to how an increase in the cash rate from 1 % to 1.5% would help to keep inflation within the target rate, and how a further decrease from 1% to 0.25 % in the cash rate would help to stimulate the economy. Describe the circumstances in which the RBA Board might decrease and/or increase the cash rate in the future.

Answer 1

Contractionary monteray policy by RBI board like increase in cash rate from 1% to 1.5% will decrease the loanable funds with banks as they have to keep a larger portion of their funds with RBI in form of cash.Therefore, banks have to increase the interest rates to keep their profit margin same and to increase the deposits. Rising interest rates usually discourage loan seekers as cost of capital increases. This reduces money supply in the economy and reduces the demand. Consequently, ot would keep the inflation in target.

similarly decrease in cash rate increase the loanable funds with banks and decreases the interest rates in economy which causes money supply to increase. Increased money supply boosts the demand and stimulate the economy.

In future, RBI will increase the cash rate when infaltion rises or expected to rise and it will decrease the cash rate in case of deflationary and recessionary tendencies in the economy