Monetary Policy Details

Monetary policy

Monetary policy is a tool used by central banks to influence the price of securities by lending and buying money. A central bank can lend to qualified banks, purchase bonds, or use a combination of these tools. In Canada, the Bank of Canada sets a target overnight interest rate and a band of plus or minus 0.25% around it.

Interest on reserves

In October 2008, the Federal Reserve began paying banks interest on their excess reserves. This move was meant to remove an implicit distortionary tax on banks, while helping the Fed maintain the federal funds rate at its target level. Interest on reserves is also expected to simplify the implementation of monetary policy, as the Fed can pursue a separate credit and monetary policy.

Reserves have several functions, including lending. Interest payments are intended to increase banks' lending power. When banks have excess reserves, they have no incentive to lend them. However, if the federal funds rate is expected to exceed its intended level, the central bank will supply additional reserves.

QE

Quantitative easing is a monetary policy tool that the Federal Reserve has used to stimulate the economy in times of crisis. It involves increasing the supply of money and lowering long-term interest rates. This type of policy is unique to the Federal Reserve and is carried out by purchasing long-term securities from member banks. This extra cash is then lent out to stimulate the economy.

To achieve this, the central bank purchases government bonds and other financial assets on a large scale. This increases the value of these financial assets, which leads to increased investment and consumer spending. The proceeds of these purchases will go to financial institutions and banks, which may invest these funds in the asset market or lend them out to consumers.

Federal funds rate

The Federal Reserve conducts monetary policy to influence inflation, employment, and the cost of credit throughout the economy. The federal funds rate is its primary tool in this endeavor. It is the interest rate that banks pay to one another for overnight loans. Changing the federal funds rate will have a direct impact on other interest rates as well as the cost of borrowing for businesses and households.

The Federal Funds Rate is based on the average overnight rate of U.S. dollar loans between banks. The Federal Reserve wants the FFR to remain within its target range between 3% and 3.25%. It also affects the prime interest rate, the interest rate that banks charge their best customers. Many consumer interest rates are influenced by the prime rate, so it is important to understand how the Federal Funds Rate impacts them.

Gold reserves

The IMF regularly maintains statistics on national assets and gold reserves, and the World Gold Council ranks gold reserves of countries around the world. Vietnam reported having 10 tonnes of gold reserves, but was not ranked due to the absence of publicly-available data. Azerbaijan's State Oil Fund recently increased its allocation limit for gold from five to ten percent and has changed its Investment Policy in order to diversify its portfolio. However, the Central Bank of Azerbaijan does not hold gold itself.

The primary role of gold reserves in monetary policy is to adjust the money supply to money demand. However, this process is inconsistent with the rules of the game. The monetary supply, incomes, and prices are determined globally. Core countries can only influence these global variables to a certain extent, based on their relative power in the global marketplace.

Countercyclical policy

Countercyclical policy in monetary policy aims to combat the effects of the economic cycle. It is a method of policy making in which a country can raise government spending or cut taxes to stimulate the economy. These policies may prove to be helpful in a slow-growing economy, but are not necessarily helpful in a fast-growing one.

The use of countercyclical monetary policy has several benefits. In times of economic contraction, it increases the money supply, reducing interest rates and stimulating growth in interest-sensitive sectors. It also reduces inflationary pressures. However, it requires careful consideration to decide whether to implement countercyclical policy.