Lecture
Monetary (monetary) policy is a type of stabilization or anti-cyclical policy (along with fiscal, foreign trade, structural, monetary, etc.) aimed at smoothing economic fluctuations.
The goal of monetary stabilization, like any state stabilization policy, is to ensure: 1) stable economic growth, 2) full employment of resources, 3) price level stability, 4) balance of payments balance.
Monetary policy has an impact on economic conditions, affecting aggregate demand. The object of regulation is the money market and, above all, the money supply.
Monetary policy is determined and implemented by the central bank. However, the change in the money supply in the economy occurs as a result of operations not only of the central bank, but also of commercial banks, as well as decisions of the non-banking sector (households and firms).
Tactical targets (targets) of the monetary policy of the central bank can be: 1) control over the money supply (money supply), 2) control over the interest rate level, 3) control over the exchange rate of the national currency unit (national currency).
The change in the money supply is carried out by the central bank by influencing the monetary base (H) and the money multiplier (mult den = [(1 + cr) / (cr + rr)], since ∆М = multden x ∆H. At the level of the banking system, this effect through regulation of the value of the credit opportunities of commercial banks (K) and the bank multiplier (mult bank = 1 / rr).
The monetary policy instruments that enable the central bank to control the amount of money supply include:
The first monetary policy tool is the change in the required reserve ratio (or the required reserve ratio). Recall that the required reserves are part of the deposits of commercial banks, which they must keep either as interest-free deposits with the central bank (if there is a reserve banking system in the country) or as cash. The amount of required reserves is determined in accordance with the required reserves ratio, which is set as a percentage of the total amount of deposits and can be calculated using the formula: R required = D х rr, where R required is the amount of required reserves, D is the total amount of deposits, rr is the norm required reserves (in percent). For each type of deposits (demand, savings, term) its own reserve ratio is established, and the higher the degree of deposit liquidity, the higher this rate, for example, for demand deposits, the required reserve rate is higher than for time deposits.
If the central bank increases the reserve requirement, the money supply is reduced for two reasons. Firstly, the credit capacity of a commercial bank is reduced, i.e. the amount that he can issue on credit. As you know, credit opportunities are the difference between the amount of deposits and the amount of required reserves of a bank. With an increase in the required reserves ratio, the amount of required reserves, which a commercial bank does not have the right to use for lending purposes (as credit resources), increases, and its credit capacity decreases accordingly. For example, if the total amount of deposits in a commercial bank increases by $ 1,000, then with a required reserve ratio of 10%, its credit capacity will be ΔK = ΔD - ΔR required = ΔD - (ΔD x rr) = 1000 - 1000 x 0.1 = 900, and with the required reserve ratio equal to 20%
ΔK = 1000 - 1000 x 0.2 = 800.
Secondly, the required reserves ratio determines the value of the bank (deposit) multiplier (mult = 1 / rr, where rr is the required reserves ratio). The growth of the required reserves ratio from 10% to 20% reduces the size of the banking multiplier from 10 (1 / 0.1) to 5 (1 / 0.2). Thus, a change in the required reserves ratio affects the money supply through two channels: 1) and through a change in the credit capabilities of commercial banks, 2) and through a change in the value of the banking multiplier.
Changing the value of credit opportunities (i.e. reserves) of commercial banks leads to a change in the value of the monetary base (recall that the monetary base (N) = cash (C) + reserves (R)), and the change in the magnitude of the banking multiplier (1 / rr) causes a change in the money multiplier [(1 + сr) / (cr + rr)].
As a result, even minor changes in the required reserves ratio can lead to significant and unpredictable changes in the money supply. So, with the required reserves ratio equal to 10%, the change in the money supply by the banking system is ΔМ1 = ΔК 1 x mult 1 = 900 x 10 = 9000, and at the norm of the required reserves equal to 20%, the change in money supply ΔМ 2 = ΔК 2 x mult 2 = 800 x 5 = 4000. In addition, the stability of the norm of reserve requirements is the basis for the smooth conduct of business by commercial banks. Therefore, this tool is not used for the purposes of current control over the money supply. The change in the required reserves ratio occurs only in cases where the Central Bank intends to achieve a significant expansion or contraction of the money supply (the last time this tool was used in the United States during the crisis of 1974-1975).
In addition, since 1980, the procedure for revising this indicator has become very cumbersome and technically difficult, so it has ceased to be a means of quickly and flexibly managing money supply.
The second instrument of monetary policy is the regulation of the discount rate (refinancing rate) (discount rate). The discount rate is the interest rate at which the central bank provides loans to commercial banks. Commercial banks resort to borrowing from the central bank if they unexpectedly face the need to urgently replenish reserves or to get out of difficult financial situations. In the latter case, the central bank acts as a lender of last resort.
Cash received in a loan from the central bank (through the "discount window") at the discount rate, represent additional reserves of commercial banks, the basis for a multiplicative increase in the money supply.
Therefore, by changing the discount rate, the central bank can influence the money supply. Commercial banks consider the discount rate as costs associated with the acquisition of reserves. The higher the discount rate, the smaller the amount of borrowing from the central bank and the smaller the volume of loans provided by commercial banks. And the smaller the lending capabilities of banks, the smaller the money supply. If the discount rate is reduced, it prompts commercial banks to borrow from the central bank to increase their reserves. Their credit opportunities expand, increasing the monetary base, the process of multiplicative increase in the money supply begins (at the level of banks ΔM = mult bank xΔK or at the level of economy ΔM = mult den xΔH).
It should be noted that, unlike the effect on the money supply, changes in the required reserves ratio, a change in the discount interest rate affects only the amount of credit opportunities of commercial banks and, accordingly, the monetary base, without changing the value of the bank (and therefore money) multiplier.
Changing the discount rate is also not the most flexible and operational tool of monetary policy. This is primarily due to the fact that the volume of loans obtained by borrowing from the central bank is small and does not exceed 2-3% of the total amount of bank reserves. The fact is that the central bank does not allow commercial banks to abuse the possibility of obtaining loans from it. It provides funds only if, according to experts, the bank really needs help, and the reasons for its financial difficulties are objective.
Therefore, a change in the discount rate is more likely seen as an information signal on the intended direction of the central bank policy. Announcement of the increase in the discount rate informs about its intention to conduct a restraining monetary policy, as a rule, to fight inflation. The fact is that the discount rate is a kind of guideline for setting the interbank interest rate (that is, the interest rate at which commercial banks provide loans to each other) and the interest rate at which commercial banks issue loans to the nonbank sector of the economy (households and firms) . If the central bank announces a possible increase in the discount rate, the economy reacts very quickly, the money (loans) become “expensive”, and the money supply shrinks.
The most important and operational means of control over the money supply are open market operations (open market operations). Open market operations are the purchase and sale by a central bank of government securities in secondary securities markets. (The activities of a central bank in primary securities markets are generally prohibited by law.) The objects of operations in the open market are mainly: 1) short-term government bonds and 2) treasury bills.
The difference between government bonds and Treasury bills lies in the fact that bonds bring in the form of percent (percent income), while income on treasury bills represents the difference between the price at which the Central Bank sells securities, pledging to repurchase them after a certain period, and more high, determined at the time of sale, redemption price, i.e. This is essentially a capital gain.
Government securities are bought and sold to commercial banks and the public. The purchase by the central bank of government bonds in both the first and second cases increases the reserves of commercial banks. If the Central Bank buys securities from a commercial bank, it increases the amount of reserves in its account with the central bank. Thus, the total amount of reserve deposits of the banking system increases, which increases the lending capabilities of banks and leads to deposit (multiplicative) expansion. Thus, like the change in the discount rate, open market operations affect the change in the money supply, only affecting the amount of credit opportunities of commercial banks and, accordingly, the monetary base. (The change in the value of the bank, and therefore the value of the money multiplier does not occur).
If the central bank buys securities from the public (households or firms), since the seller receives the check from the central bank and deposits it into his account at a commercial bank, the reserves of the commercial bank increase and the money supply increases for the same reasons as in the case of when securities are sold by a commercial bank. However, the difference is that when the seller is a commercial bank, its reserves increase, as already noted, by the entire amount of the bond purchases, while if the securities are sold by a private person, the amount on current accounts increases, therefore the credit opportunities of the bank the systems will be smaller, since a part of the deposit in accordance with the reserve requirements will be the required reserves of the bank. So, for example, if a central bank buys securities from a commercial bank for $ 1,000, then the bank’s lending capacity will increase by the full amount of $ 1,000. And if the buyer is an individual, then with a reserve requirement of 20%, banks will increase only by $ 800, because the required reserves must be increased by $ 200.
Purchase of securities by the central bank is used as a means of operational impact on the economic situation during a recession. If the economy is “overheated,” the central bank sells government securities on the open market. This significantly limits the lending capacity of commercial banks, reducing their reserves and, accordingly, the monetary base, which leads to a multiplicative contraction of the money supply by an amount equal to the product of the bank, and at the level of the economy - the money multiplier and the volume of sales of securities in the open market (bonds - B ): ΔK = B x mult bank or ΔH = B x mult den . This has a moderating effect on economic activity.
The ability to conduct open market operations is due to the fact that buying and selling government securities from the central bank is beneficial to commercial banks and the public. This is due to the fact that the price of bonds and the interest rate are in inverse relationship, and when the central bank buys government bonds, the demand for them increases, which leads to an increase in their prices and a fall in the interest rate. The owners of government bonds (both commercial banks and the public) begin to sell them to the central bank, since increased prices make it possible to earn income due to the difference between the price at which the bond was purchased and the price at which it is sold (capital gain). And vice versa, when the central bank sells government bonds, their supply increases, which leads to a fall in their prices and an increase in interest rates, making their purchase profitable.
So, injections into bank reserves, as a result of a purchase, and withdrawals from them, as a result of the sale of government securities by the central bank, lead to a quick reaction of the banking system, they act more subtly than other instruments of monetary policy, so open market operations are the most effective, efficient and flexible way to influence the value of the money supply.
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Macroeconomics
Terms: Macroeconomics