Question

How does monetary policy work? How is it done?

Answer 1

Monetary policy consists of the actions of a central bank that determine the size and growth of the money supply, which in turn affect interest rates . Monetary policy is maintained through actions such as changing interest rates, buying or selling gov ernment bonds and changing in the amount of reserves.

Through its monetary policy,central bank can affect the demand in the economy.When growth falls , the central bank may reduce the repo rate . As this monetary signal works its way through the economy, the rates for all sorts of loans fall. This stimulates the demand and helps the economy return to its potential growth rate. Sometimes , when growth rate is too high , pushing up inflation. Then, economy is growing at a faster rate than its potential and this causes price of inputs to rise.Then, central bank raise the repo rate , trying to reduce the demand .