Monetary policy is the collective term for the principles and policies adopted by a country to control and regulate the money supply in order to achieve specific macroeconomic objectives.
Monetary policy is executed by the central bank, which influences the money supply. Through the central bank’s regulation of the money supply, adjustment of interest rates, and control of credit supply in the economy, a series of measures are implemented to indirectly impact aggregate demand and achieve an ideal balance between aggregate demand and aggregate supply.
Monetary policy generally consists of two types: expansionary monetary policy and contractionary monetary policy.
1.Expansionary Monetary Policy
Objective: When the economic growth rate is sluggish and deflation occurs, an expansionary monetary policy is implemented to increase the circulation of money in the market and stimulate economic growth.
For example, due to recent poor economic data and slow economic growth, Jack’s return on share investments is very low.
To prevent further market risks, Jack considers withdrawing funds from shares and depositing them in bank wealth management products. He plans to reinvest in the share market when economic indicators change.
There are many investors in the market who share Jack’s thinking. As investor sentiment worsens, the share market performance declines day by day, and the circulation of money in the market decreases.
To address this situation, the central bank employs an expansionary monetary policy to increase the circulation of money in the market and stimulate economic growth. As the economy improves and people have more money in hand, the willingness to invest in the share market gradually increases.
2.Contractionary Monetary Policy
Objective: When inflation occurs and the economy overheats, a contractionary monetary policy is implemented to reduce the circulation of money in the market and suppress total demand to ensure stable economic growth.
For example, during inflation, Jack realizes that the value of his money is diminishing. Previously, the cost of a lunch meal was around $5, but now it has risen to $8.
Additionally, essential items such as fruits, milk, and meat at the supermarket have increased by more than 20%, while Jack’s salary has remained unchanged. With decreasing savings and increasing expenses, Jack often finds himself in a state of anxiety.
To alleviate inflation, the central bank implements a series of measures, such as raising market interest rates and reducing the circulation of funds in society, to prevent the economy from overheating, controlling price increases, and lowering people’s living costs.
The central bank employs various means to implement monetary policy, including adjusting the reserve requirement ratio, conducting open market operations, and adjusting interest rates. The objective is to ensure orderly and stable economic development.
