Meaning of Monetary Policy

This article attempts to briefly explain the meaning and types of monetary policy. For the country’s economic stability, monetary policy as a fundamental part of macroeconomic policy plays a vital role.

Monetary policy is a form of macroeconomic policy formulated by the country’s central bank. Broadly monetary policy is the government’s policy that influences overall economic activities through the management of money supply, interest rate, and credit management to achieve pre-determined macroeconomic goals such as obtaining higher economic growth, job creation, price stability, external sector stability, and economic stability. Therefore, monetary policy is the policy formulated by the central bank to assist in expanding economic activities while maintaining macroeconomic stability. It aims to support economic growth and job creation by maintaining economic stability through money supply, credit, and interest rate management.

Points to Remember

What it is: It is a kind of macroeconomic policy formulated by the country’s central bank to support the socio-economic development planned by the government.
Why is it needed: it is needed to achieve pre-determined macroeconomic goals such as achieving high economic growth, job creation, stabilizing prices and wages, maintaining stability in the external sector, maintaining economic stability, etc.
How to achieve goals: it helps to obtain goals by managing the money supply, interest rates, and credit supply in a timely manner and thereby mobilizing overall economic activities in the right direction.

Features of Monetary Policy

• Monetary policy is one of the tools that a national government uses to influence its economy.
• It aims to control the supply and availability of money to influence the overall level of economic activity in line with its political and economic objectives.
• Usually, the major goal of monetary policy is to get macroeconomic stability by maintaining low unemployment, low inflation, economic growth, and a balance of external payments.
• Monetary policy is usually administered by a government-appointed central bank such as the Bank of Canada, the Bank of England, Nepal Rasta Bank, and the Federal Reserve Bank-the Fed in the United States.
• Monetary policy may be expansionary as well as contractionary based on the status of an economy.

Types of Monetary Policy

Major types or stances of monetary policy can be briefly presented below.

Expansionary Monetary Policy

• It is that form of monetary policy that is directed towards increasing the money supply, and bank credit, and reducing the interest rates to increase aggregate demand in the economy.
• The main purpose of expansionary monetary policy is to boost the economy.
• It is implemented when there are underutilized resources, demand deficiency, and a need for infrastructural development, and the economy is facing phases of contraction and downturn.
• Expansionary monetary policy is also called loose monetary policy or monetary easing.
• It can be implemented by reducing the cash reserve ratio (CRR), Bank rates, statutory liquidity ratio (SLR) buying treasury securities from the open market, decreasing margin requirements, easing consumer credit, and so on.

Contractionary Monetary Policy

• It is that form of monetary policy that is directed towards decreasing the money supply, and bank credit, and increasing the interest rates to check and control aggregate demand in the economy.
• The main purpose of contractionary monetary policy is to check overheating scenarios in the economy. It means it aims to control inflationary pressure in the economy.
• It is implemented when there is overutilization of resources, aggressive expansion in aggregate demand, and the economy is facing phases of expansion and boom.
• The contractionary monetary policy is also called tight monetary policy or monetary tightening.
• It can be implemented by increasing CRR, SLR, and Bank rates, selling treasury securities from the open market, increasing margin requirements, restricting consumer credit, and so on.

The article presents a brief matter on the meaning and types of monetary policy. Monetary policy, therefore, is the policy formulated by the government for the economic development of a country by obtaining different socio-economic goals and maintaining economic stability.