Macroeconomics: Monetary Policy Flashcards

Flashcards covering key concepts of monetary policy, including definitions, goals, tools, and effectiveness.

What is monetary policy?

The government's control and use of interest rates and the money supply to influence aggregate demand and economic activity.

What are the goals of monetary policy?

Achieving a low and stable rate of inflation, low unemployment, reducing fluctuations in the business cycle, promoting a stable economic environment for long-term growth, and harmonizing the external balance.

What is the role of a central bank?

Executor of monetary policy, government's bank, bankers' bank, sole issuer of legal tender, lender of last resort, and credit control.

What does inflation targeting refer to?

The practice of central banks using monetary policy to achieve a specific rate of inflation.

What is the external balance?

A country's export earnings being roughly equal to the value of its import expenditure.

What is credit creation?

The process by which commercial banks create money from deposits from savers and use these funds as loans to borrowers.

What is the money multiplier?

A formula used to calculate by how much an initial deposit increases the money supply (Money multiplier = 1 / Reserve ratio).

What is the minimum reserve ratio (MRR)?

The lowest amount that commercial banks are required to keep as reserves in the central bank.

What are open market operations (OMO)?

The buying and selling of government securities by a country's central bank.

What is the minimum lending rate (MLR)?

The official rate of interest charged by the central bank on loans to commercial banks.

What is quantitative easing (QE)?

A monetary policy tool that injects money directly into the economy via the central bank purchasing bonds.

What is the liquidity trap?

A situation when the minimum lending rate cannot be cut any further, making traditional expansionary monetary policy ineffective.

What is the demand for money?

The desire of households and firms to hold money in order to finance spending and investment.

What is the nominal interest rate?

The actual rate agreed between a bank and the customer.

How to calculate the real interest rate?

Nominal interest rate – Inflation rate.

What is expansionary monetary policy?

Aims to boost economic activity by expanding the money supply and lowering interest rates, closing a deflationary gap.

What is contractionary monetary policy?

Aims to reduce the level of economic activity by restricting the money supply through higher interest rates, thereby closing an inflationary gap.

Describe some constraints on monetary policy.

Limited scope of reducing interest rates when they are close to zero, and low consumer and business confidence.

Describe some strengths of monetary policy.

It being incremental, flexible, easily reversible, and having relatively short time lags.