1. Alomar_111_211 Chapter 15 The Monetary Policy The Monetary Policy

2. Alomar_111_212 What is monetary policy? Conducted by the federal reserve or the central bank Conducted by the federal reserve or the central bank Goal: price stability, full employment, economic growth, stable exchange rate… Goal: price stability, full employment, economic growth, stable exchange rate… Functions of the CB: Functions of the CB: Supervise commercial banks, conduct of monetary policy, bank of the state, controlling money supply, lender of last resort… Supervise commercial banks, conduct of monetary policy, bank of the state, controlling money supply, lender of last resort…

3. Alomar_111_213 Tools of monetary policy 1. Open market operations: The process of buying and selling government bonds. A- Open market purchase: buying government bonds, used to face inflationary gap (AD>AS) - Money supply falls, purchasing power declines, (AD )

4. Alomar_111_214 B- Open market sale: selling government bonds, used to face contractionary gap (AD<AS) B- Open market sale: selling government bonds, used to face contractionary gap (AD<AS) - Money supply increases, purchasing power increases, (AD )

5. Alomar_111_215 2. the reserve ratio: 2. the reserve ratio: Used to influence the ability of commercial banks to lend. Remember: more loans means more money Thus, changing reserve ratio affect reserve requirement of the commercial bank

6. Alomar_111_216 a. Contractionary monetary policy: Raising reserve ratio: reduces ability of banks to lend money, reduces Ms, reduces AD b. Expansionary monetary policy: reducing reserve ratio: increases the ability of banks to lend money, increases Ms, increases AD

7. Alomar_111_217 3. The Discount Rate The central bank is the “lender of last resort”. The central bank is the “lender of last resort”. Commercial banks have immediate and unexpected needs for additional cash Commercial banks have immediate and unexpected needs for additional cash The CB provides short-term loans to commercial banks The CB provides short-term loans to commercial banks The interest rate charged is called the discount rate. The interest rate charged is called the discount rate.

8. Alomar_111_218 Expansionary monetary policy When the CB reduces the discount rate, commercial banks are encouraged to borrow more When the CB reduces the discount rate, commercial banks are encouraged to borrow more This increases the ability of banks to lend This increases the ability of banks to lend Increase Ms Increase Ms Increase AD Increase AD

9. Alomar_111_219 Contractionary monetary policy When the CB increases the discount rate, commercial banks are discouraged to borrow more When the CB increases the discount rate, commercial banks are discouraged to borrow more This reduces the ability of banks to lend This reduces the ability of banks to lend reduces Ms reduces Ms reduces AD reduces AD

10. Alomar_111_2110 Tools of Monetary Policy 1- Open market purchase: sell and buy government bonds 1- Open market purchase: sell and buy government bonds 2- Reserve requirement: increase or decrease required reserve ratio 2- Reserve requirement: increase or decrease required reserve ratio 3- The discount rate: increase or decrease discount rate 3- The discount rate: increase or decrease discount rate

11. Alomar_111_2111 Expansionary monetary policy Open Market Sale. Open Market Sale. Decreases reserve ratio Decreases reserve ratio Decreases discount rate Decreases discount rate

12. Alomar_111_2112 Contractionary monetary policy Open Market purchase. Open Market purchase. increases reserve ratio increases reserve ratio increases discount rate increases discount rate

13. Alomar_111_2113 THANK YOU, AND GOOD LUCK!