Expansionary Contractionary Tools Benefits/Limitations Monetary Policy Expansionary Contractionary Tools Benefits/Limitations

Monetary Policy Monetary Policy involves The Bank of Canada changing interest rates The Bank of Canada altering the money supply Or a combination of the above to stabilize the economy Easy money policy Monetary policy can be “Expansionary” or “Contractionary” Tight money policy

Expansionary Monetary Policy is a policy of increasing the money supply and lowering interest rates which shifts AD rightward by a magnified amount due to an initial increase in investment and the consumption of durable goods is used to eradicate a recessionary gap

Expansionary Monetary Policy Real Output before Easy Money Policy P1 Price Level Real GDP AS AD1 Q1 Capacity Output AD2 Q2 P2 Recessionary Gap closes Real Output after Easy Money Polciy

Contractionary Monetary Policy is a policy of decreasing the money supply and raising interest rates which shif ts AD leftward by a magnified amount due to an initial decrease in investment and the consumption of durable goods is used to eradicate an inflationary gap

Contractionary Monetary Policy Price Level Real GDP AS AD1 Q1 Capacity Output AD2 Q2 P2 Inflationary Gap closes Real Output before Tight Money Policy Real Output after Tight Money Policy

Tools of Monetary Policy Open Market Operations Government Deposits The Bank Rate Changes in Reserve Requirements

Open Market Operations Open market operations are a tool the Bank of Canada uses to conduct monetary policy Buying/selling Bonds and T-Bills Bank of Canada buys bonds from Canadian Corporations and the result is an increase in the money supply Bank of Canada sells bonds to Canadian Corporations and the result is a decrease in the money supply because the $ is out of circulation.

Government Deposits Moving government deposits is another tool the Bank of Canada uses to conduct monetary policy The Bank of Canada can increase the money supply by transferring federal government deposits to chartered banks The Bank of Canada can decrease the money supply by moving the money from the chartered banks to its own.

Changes in the Bank Rate Changing the bank rate is a tool the Bank of Canada uses to signify its monetary policy intentions An increase in the bank rate tells the chartered banks that the B of C wants a decrease in loans and an increase in interest rates to create a decrease in the money supply A decrease in the bank rate tells the chartered banks the opposite.

Changes in Reserve Requirements As the reserve ratio increases, the Money Supply decreases As the reserve ratio decreases, the money supply increases

The Benefits and Drawbacks of Monetary Policy Monetary policy has two main benefits it is separated from day- to- day politics decisions regarding monetary policy can be made quickly Monetary policy has two main drawbacks it is less effective as an expansionary tool than as a contractionary tool it cannot be focused on particular regions