Economics
Expansionary and Contractionary Monetary Policy
Expansionary monetary policy refers to central bank actions aimed at increasing the money supply and lowering interest rates to stimulate economic growth. This can involve measures such as lowering reserve requirements and buying government securities. Contractionary monetary policy, on the other hand, involves reducing the money supply and raising interest rates to curb inflation and slow down economic activity.
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12 Key excerpts on "Expansionary and Contractionary Monetary Policy"
No longer available |Learn more- (Author)
- 2014(Publication Date)
- Library Press(Publisher)
The beginning of monetary policy as such comes from the late 19th century, where it was used to maintain the gold standard. A policy is referred to as contractionary if it reduces the size of the money supply or increases it only slowly, or if it raises the interest rate. An expansionary policy increases the size of the money supply more rapidly, or decreases the interest rate. Furthermore, monetary policies are described as follows: accommodative, if the interest rate set by the ____________________ WORLDTECHNOLOGIES ____________________ central monetary authority is intended to create economic growth; neutral, if it is intended neither to create growth nor combat inflation; or tight if intended to reduce inflation. There are several monetary policy tools available to achieve these ends: increasing interest rates by fiat; reducing the monetary base; and increasing reserve requirements. All have the effect of contracting the money supply; and, if reversed, expand the money supply. Since the 1970s, monetary policy has generally been formed separately from fiscal policy. Even prior to the 1970s, the Bretton Woods system still ensured that most nations would form the two policies separately. Within almost all modern nations, special institutions (such as the Federal Reserve System in the United States, the Bank of England, the European Central Bank, the People's Bank of China, and the Bank of Japan) exist which have the task of executing the monetary policy and often independently of the executive. In general, these institutions are called central banks and often have other responsibilities such as supervising the smooth operation of the financial system. The primary tool of monetary policy is open market operations. This entails managing the quantity of money in circulation through the buying and selling of various financial instruments, such as treasury bills, company bonds, or foreign currencies.
No longer available |Learn more- (Author)
- 2014(Publication Date)
- College Publishing House(Publisher)
The beginning of monetary policy as such comes from the late 19th century, where it was used to maintain the gold standard. A policy is referred to as contractionary if it reduces the size of the money supply or increases it only slowly, or if it raises the interest rate. An expansionary policy increases the size of the money supply more rapidly, or decreases the interest rate. Furthermore, monetary policies are described as follows: accommodative, if the interest rate set by the ____________________ WORLD TECHNOLOGIES ____________________ central monetary authority is intended to create economic growth; neutral, if it is intended neither to create growth nor combat inflation; or tight if intended to reduce inflation. There are several monetary policy tools available to achieve these ends: increasing interest rates by fiat; reducing the monetary base; and increasing reserve requirements. All have the effect of contracting the money supply; and, if reversed, expand the money supply. Since the 1970s, monetary policy has generally been formed separately from fiscal policy. Even prior to the 1970s, the Bretton Woods system still ensured that most nations would form the two policies separately. Within almost all modern nations, special institutions (such as the Federal Reserve System in the United States, the Bank of England, the European Central Bank, the People's Bank of China, and the Bank of Japan) exist which have the task of executing the monetary policy and often independently of the executive. In general, these institutions are called central banks and often have other responsibilities such as supervising the smooth operation of the financial system. The primary tool of monetary policy is open market operations. This entails managing the quantity of money in circulation through the buying and selling of various financial instruments, such as treasury bills, company bonds, or foreign currencies.
No longer available |Learn more- (Author)
- 2014(Publication Date)
- White Word Publications(Publisher)
The beginning of monetary policy as such comes from the late 19th century, where it was used to maintain the gold standard. A policy is referred to as contractionary if it reduces the size of the money supply or increases it only slowly, or if it raises the interest rate. An expansionary policy increases the size of the money supply more rapidly, or decreases the interest rate. Furthermore, ____________________ WORLD TECHNOLOGIES ____________________ monetary policies are described as follows: accommodative, if the interest rate set by the central monetary authority is intended to create economic growth; neutral, if it is intended neither to create growth nor combat inflation; or tight if intended to reduce inflation. There are several monetary policy tools available to achieve these ends: increasing interest rates by fiat; reducing the monetary base; and increasing reserve requirements. All have the effect of contracting the money supply; and, if reversed, expand the money supply. Since the 1970s, monetary policy has generally been formed separately from fiscal policy. Even prior to the 1970s, the Bretton Woods system still ensured that most nations would form the two policies separately. Within almost all modern nations, special institutions (such as the Federal Reserve System in the United States, the Bank of England, the European Central Bank, the People's Bank of China, and the Bank of Japan) exist which have the task of executing the monetary policy and often independently of the executive. In general, these institutions are called central banks and often have other responsibilities such as super-vising the smooth operation of the financial system. The primary tool of monetary policy is open market operations. This entails managing the quantity of money in circulation through the buying and selling of various financial instruments, such as treasury bills, company bonds, or foreign currencies.
No longer available |Learn more- (Author)
- 2014(Publication Date)
- Orange Apple(Publisher)
Various states in the United States have various forms of self-imposed fiscal straitjackets. Monetary Policy Monetary policy is the process by which the monetary authority of a country controls the supply of money, often targeting a rate of interest to attain a set of objectives oriented towards the growth and stability of the economy. These goals usually include relatively stable prices and low unemployment. Monetary theory provides insight into how to craft optimal monetary policy. Monetary policy is referred to as either being an expansionary policy, or a contractionary policy, where an expansionary policy increases the total supply of money in the economy rapidly, and a contractionary policy decreases the total money supply, or increases it slowly. Expansionary policy is traditionally used to combat unemployment in a recession by lowering interest rates, while contractionary policy involves raising interest rates to combat inflation. Monetary policy is contrasted with fiscal policy, which refers to government borrowing, spending and taxation. Overview Monetary policy rests on the relationship between the rates of interest in an economy, that is, the price at which money can be borrowed, and the total supply of money. Monetary policy uses a variety of tools to control one or both of these, to influence outcomes like economic growth, inflation, exchange rates with other currencies and unemployment. Where currency is under a monopoly of issuance, or where there is a regulated system of issuing currency through banks which are tied to a central bank, the monetary authority has the ability to alter the money supply and thus influence the interest rate (to achieve policy goals). The beginning of monetary policy as such comes from the late 19th century, where it was used to maintain the gold standard. A policy is referred to as contractionary if it reduces the size of the money supply or increases it only slowly, or if it raises the interest rate.
eBook - PDF- Steven A. Greenlaw, Timothy Taylor, David Shapiro(Authors)
- 2017(Publication Date)
- Openstax(Publisher)
676 Chapter 28 | Monetary Policy and Bank Regulation This OpenStax book is available for free at http://cnx.org/content/col12122/1.4 Figure 28.8 Expansionary or Contractionary Monetary Policy (a) The economy is originally in a recession with the equilibrium output and price shown at E 0 . Expansionary monetary policy will reduce interest rates and shift aggregate demand to the right from AD 0 to AD 1 , leading to the new equilibrium (E 1 ) at the potential GDP level of output with a relatively small rise in the price level. (b) The economy is originally producing above the potential GDP level of output at the equilibrium E 0 and is experiencing pressures for an inflationary rise in the price level. Contractionary monetary policy will shift aggregate demand to the left from AD 0 to AD 1 , thus leading to a new equilibrium (E 1 ) at the potential GDP level of output. Conversely, if an economy is producing at a quantity of output above its potential GDP, a contractionary monetary policy can reduce the inflationary pressures for a rising price level. In Figure 28.8 (b), the original equilibrium (E 0 ) occurs at an output of 750, which is above potential GDP. A contractionary monetary policy will raise interest rates, discourage borrowing for investment and consumption spending, and cause the original demand curve (AD 0 ) to shift left to AD 1 , so that the new equilibrium (E 1 ) occurs at the potential GDP level of 700. These examples suggest that monetary policy should be countercyclical; that is, it should act to counterbalance the business cycles of economic downturns and upswings. The Fed should loosen monetary policy when a recession has caused unemployment to increase and tighten it when inflation threatens. Of course, countercyclical policy does pose a danger of overreaction. If loose monetary policy seeking to end a recession goes too far, it may push aggregate demand so far to the right that it triggers inflation.
eBook - PDF- Steven A. Greenlaw, Timothy Taylor(Authors)
- 2014(Publication Date)
- Openstax(Publisher)
354 Chapter 15 | Monetary Policy and Bank Regulation This OpenStax book is available for free at http://cnx.org/content/col11626/1.10 Figure 15.8 Expansionary or Contractionary Monetary Policy (a) The economy is originally in a recession with the equilibrium output and price level shown at E 0 . Expansionary monetary policy will reduce interest rates and shift aggregate demand to the right from AD 0 to AD 1 , leading to the new equilibrium (E 1 ) at the potential GDP level of output with a relatively small rise in the price level. (b) The economy is originally producing above the potential GDP level of output at the equilibrium E 0 and is experiencing pressures for an inflationary rise in the price level. Contractionary monetary policy will shift aggregate demand to the left from AD 0 to AD 1 , thus leading to a new equilibrium (E 1 ) at the potential GDP level of output. Conversely, if an economy is producing at a quantity of output above its potential GDP, a contractionary monetary policy can reduce the inflationary pressures for a rising price level. In Figure 15.8 (b), the original equilibrium (E 0 ) occurs at an output of 750, which is above potential GDP. A contractionary monetary policy will raise interest rates, discourage borrowing for investment and consumption spending, and cause the original demand curve (AD 0 ) to shift left to AD 1 , so that the new equilibrium (E 1 ) occurs at the potential GDP level of 700. These examples suggest that monetary policy should be countercyclical; that is, it should act to counterbalance the business cycles of economic downturns and upswings. Monetary policy should be loosened when a recession has caused unemployment to increase and tightened when inflation threatens. Of course, countercyclical policy does pose a danger of overreaction. If loose monetary policy seeking to end a recession goes too far, it may push aggregate demand so far to the right that it triggers inflation.
- Steven A. Greenlaw, Timothy Taylor, David Shapiro(Authors)
- 2017(Publication Date)
- Openstax(Publisher)
360 Chapter 14 | Monetary Policy and Bank Regulation This OpenStax book is available for free at http://cnx.org/content/col23729/1.3 Figure 14.8 Expansionary or Contractionary Monetary Policy (a) The economy is originally in a recession with the equilibrium output and price shown at E 0 . Expansionary monetary policy will reduce interest rates and shift aggregate demand to the right from AD 0 to AD 1 , leading to the new equilibrium (E 1 ) at the potential GDP level of output with a relatively small rise in the price level. (b) The economy is originally producing above the potential GDP level of output at the equilibrium E 0 and is experiencing pressures for an inflationary rise in the price level. Contractionary monetary policy will shift aggregate demand to the left from AD 0 to AD 1 , thus leading to a new equilibrium (E 1 ) at the potential GDP level of output. Conversely, if an economy is producing at a quantity of output above its potential GDP, a contractionary monetary policy can reduce the inflationary pressures for a rising price level. In Figure 14.8 (b), the original equilibrium (E 0 ) occurs at an output of 750, which is above potential GDP. A contractionary monetary policy will raise interest rates, discourage borrowing for investment and consumption spending, and cause the original demand curve (AD 0 ) to shift left to AD 1 , so that the new equilibrium (E 1 ) occurs at the potential GDP level of 700. These examples suggest that monetary policy should be countercyclical; that is, it should act to counterbalance the business cycles of economic downturns and upswings. The Fed should loosen monetary policy when a recession has caused unemployment to increase and tighten it when inflation threatens. Of course, countercyclical policy does pose a danger of overreaction. If loose monetary policy seeking to end a recession goes too far, it may push aggregate demand so far to the right that it triggers inflation.
eBook - PDF- Martha L. Olney(Author)
- 2011(Publication Date)
- Wiley(Publisher)
Contrac- tionary fiscal policy refers to fiscal policy actions that decrease aggregate demand: decreases in G , decreases in TR, and increases in TA. Contractionary monetary policy refers to monetary policy actions that decrease aggregate demand: decreas- ing money supply and increasing interest rates. Contractionary monetary policy is sometimes called tight money. To summarize, Expansionary fiscal policy: ↑ G , ↑ TR, or ↓ TA → ↑ AD Expansionary monetary policy: ↑ money supply or ↓ interest rates → ↑ AD Contractionary fiscal policy: ↓ G , ↓ TR, or ↑ TA → ↓ AD Contractionary monetary policy: ↓ money supply or ↑ interest rates → ↓ AD 164 Chapter 9 Macroeconomic Policy: The Overview TRY 6. The government simultaneously increases taxes by $10 billion and increases transfer payments by $30 billion. Is this expansionary fiscal policy, or contractionary fiscal policy? 7. What is expansionary monetary policy? What is contractionary monetary policy? POLICY LAGS Using policy to close an output or inflationary gap can be challenging because of the time lags involved. Economists identify three different types of policy lags: • Recognition Lag: The amount of time it takes to recognize the existence of a problem • Implementation Lag: The amount of time it takes to design and implement a policy • Response Lag: The amount of time it takes for the economy to change in response to the policy There is a recognition lag because it takes time to know what is happening in the economy. Government agencies or the Fed must gather information about the entire economy. Economists and other analysts need time to interpret the many pieces of data gathered. The implementation lag is usually longer for fiscal policy than for monetary policy. Fiscal policy requires time for legislation to move through Congress. A bill must be drafted. Committee hearings are held. The bill is voted out of committee. It is presented to the full House and voted on.
eBook - PDFMacroeconomics
Principles & Policy
- William Baumol, Alan Blinder, John Solow, , William Baumol, Alan Blinder, John Solow(Authors)
- 2019(Publication Date)
- Cengage Learning EMEA(Publisher)
When that happens, the central bank may have to resort to unconventional monetary policies, such as open-market operations in something other than Treasury bills. But remember, whether conventional or unconventional, the central idea behind expansionary monetary policy is the same: to fight the recession by lowering interest rates. 13-10 FROM MODELS TO POLICY DEBATES You will no doubt be relieved to hear that we have now provided just about all the techni- cal apparatus we need to analyze stabilization policy. To be sure, you will encounter many graphs in the next few chapters. Most of them, however, will be repeats of diagrams you have already seen. Our attention now turns from building a theory to using that theory to address several important policy issues. The next four chapters begin by taking up some of the stunning events of 2007–2009 (Chapter 14). Then we turn to a trio of controversial policy debates that surface regularly in the media: the debate over the conduct of stabilization policy (Chapter 15), the continu- ing debate over budget deficits and the effects of fiscal and monetary policy on growth (Chapter 16), and the controversy over the trade-off between inflation and unemployment (Chapter 17). 8 How we got into such a situation in 2007 and 2008 will be discussed in detail in the next chapter. Summary Copyright 2020 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Chapter 13 Monetary Policy: Conventional and Unconventional 275 Treasury bills take reserves away from banks, raise interest rates, and lead to a contraction of the money supply.
eBook - PDF- William J. Fellner(Author)
- 2023(Publication Date)
- University of California Press(Publisher)
The only qualification is that the costs and the inconvenience might be evaluated somewhat differently by dif- ferent groups of persons. This qualification is quite unimportant, and, consequently, the government may in this case be interpreted as issuing (perfect substitutes for) money in order to finance its own expenditures. The policy belongs in the same category as that of deficit financing through a government bank or through the central bank. Expansionary monetary policies are adopted on the assumption that otherwise saving would exceed investment at high levels of employment, with the result that hoarding would occur until in- come and employment have declined to lower levels. Of the policies surveyed in the preceding pages, 2, 4, and 5 aim at offsetting the decline in velocity (hoarding) at high levels of employment, by in- creasing the stock of money. Policy 1 aims at preventing the decline in MV at high levels of employment, by absorbing the idle balances, which tend to accumulate, and by transforming them into active bal- ances. Policies 3a and 3b aim at creating a situation in which there ceases to exist a tendency to hoard at high levels of employment. T H E PROBLEM OF THE IMPASSE: EXPANSIONARY AND COUNTERINFLATIONARY POLICIES The reasoning leads to the realization of the possibility of an impasse that is different in character from the so-called Keynesian impasse. The Keynsian impasse rests on the notion that open-market policies are incapable of lowering interest rates below a certain level because the L function supposedly becomes very elastic as rates de- cline. Consequently, open-market purchases result in a substantial increase of idle balances (or, if the securities are bought from com- Policies 181 mercial banks, in a substantial increase of excess reserves).
eBook - PDFTest Bank for Introductory Economics
And Introductory Macroeconomics and Introductory Microeconomics
- John G. Marcis, Michael Veseth(Authors)
- 2014(Publication Date)
- Academic Press(Publisher)
increase by a multiple of the amount of financing undertaken. B. remain unchanged. c. decrease by a multiple of the amount of financing undertaken. d. increase by the amount of financing under-taken. e. decrease by the amount of financing un-dertaken. 24. An expansionary monetary policy increases ag-gregate demand by: (264-265) A. lowering interest rates which increases in-vestment spending. b. lowering interest rtes which increases gov-ernmental spending. c. raising interest rates which cause a tax cut. d. forcing the government to increase transfer payments. e. reducing governmental spending which in-creases investment spending through the spending multiplier. 25. An expansionary fiscal policy tends to: (266-267) a. stimulate investment spending. B. increase interest rates. c. reduce the threat of inflation. d. increase tax rates. e. decrease the demand for credit. 26. The first-order effects of a contractionary fiscal policy tend to reduce aggregate demand by a multiple of the initial amount. The second-order effects: (273) a. tend to further reduce aggregate demand by reducing government spending. b. provide offsetting tax cuts to reduce the first-order effects. C. provide offsetting increases in investment spending to reduce the first-order effects. d. provide offsetting increases in governmental spending to reduce the first-order effects. e. tend to further reduce aggregate demand by reducing consumer spending. 27. Monetary policy is subject to a variable lag. Because of this, when the money supply is increased it is difficult to determine when: (270) a. interest rate will change. b. consumer expectations regarding inflation will change. c. bank reserves will change. MONETARY VERSUS FISCAL POLICY 103 d. governmental tax collections will change. E. investment spending will change. 28. Suppose that you are a bond trader and that you are anticipating lower interest rates that would increase the price of the bonds which you own.
eBook - PDFEconomics
Principles & Policy
- William Baumol, Alan Blinder, John Solow, , William Baumol, Alan Blinder, John Solow(Authors)
- 2019(Publication Date)
- Cengage Learning EMEA(Publisher)
Copyright 2020 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. Chapter 31 The Debate over Monetary and Fiscal Policy 663 from 0 0 D D to 1 1 D D , thereby moving the economy’s equilibrium from point E to point A. The substantial rise in output ($400 billion in the diagram) is accompanied by only a pinch of inflation (1 percent). So the antirecession policy is quite successful. Conversely, when the supply curve is flat, a restrictive stabilization policy is not a very effective way to bring inflation down. It serves mainly to reduce real output instead, as Figure 3(b) shows. Here, a leftward shift of the aggregate demand curve from 0 0 D D to 2 2 D D moves equilibrium from point E to point B, lowering real GDP by $400 billion but cutting the price level by merely 1 percent. Fighting inflation by contracting aggregate demand is obviously quite costly in this example. Things are just the reverse if the aggregate supply curve is steep. In that case, expan- sionary fiscal or monetary policies will cause a good deal of inflation without boosting real GDP much. This situation is depicted in Figure 4(a), in which expansionary policies shift the aggregate demand curve outward from 0 0 D D to 1 1 D D , thereby moving the econ- omy’s equilibrium from E to A. Output rises by only $100 billion but prices shoot up 10 percent. Similarly, contractionary policy is an effective way to bring down the price level without much sacrifice of output, as shown by the shift from E to B in Figure 4(b).
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