Monetary Policy: Definition

National governments influence the supply, cost, and availability of money in the economy through monetary authority to achieve a growing and stable economy. The goals and objectives of any national government are to stabilize macroeconomic activities which includes ensuring that there is low unemployment in the country, the country is experiencing constant growth, low inflation and balance of external payments (Friedman, 2002).

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It is the process by which the government through its agencies such as the central bank and other monetary authorities regulates the money supply, availability of money in the economy and rate of interest that banks charge. It can either be expansionary or contractionary policy where the former increases money supply in the economy whereas the latter reduces the amount of money supply in the economy (James, 2006).

Federal reserves have the duty of monopolizing the issuance of the paper money, serves as a banker for both the government and other banking institutions such as commercial banks. It has to carry out regulatory responsibilities. It influences aggregate demand through tax imposition. It also controls inflation by stabilizing prices which leads to stable growth in the economy. Federal Reserves influences interest rates through changes in the reserves (Forder, 2003).

Tools used by Federal Reserves

When there is a lot of money supply in the market, it will raise interest rates and reduce the money supply and vice versa is true when there is less money supply in the market. The Federal Reserve used the monetary base as a tool by regulating the amount of money in circulation through its market operations such sale and purchase of bonds. Reserve requirement and discount window is also another tool used. Here, the government regulates the number of reserves as a proportion of the total assets that banking institutions should hold at any time (Friedman, 2002)

References Lists

  1. Forder, J. (2003). Federal Reserves and Its Functions. International Encyclopedia of the Social & Behavioral Sciences, 9976-9984.
  2. Friedman, B. (2002). Monetary Policy. 900-1020
  3. James, F. (2006). Exchange Rates. 23-56

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