📚 Topic Summary
Monetary policy refers to actions undertaken by a central bank to manipulate the money supply and credit conditions to stimulate or restrain economic activity. These actions influence interest rates, inflation, and overall economic growth. Understanding how these tools work in practice is crucial for anyone studying economics or finance.
Monetary policy tools include open market operations (buying or selling government bonds), adjusting the reserve requirements (the fraction of deposits banks must hold in reserve), and changing the discount rate (the interest rate at which commercial banks can borrow money directly from the central bank). Each tool has a different effect on the economy, and central banks often use them in combination to achieve their desired outcomes.
🧠 Part A: Vocabulary
Match the following terms with their definitions:
| Term |
Definition |
| 1. Inflation |
A. The interest rate at which commercial banks can borrow money directly from the central bank. |
| 2. Open Market Operations |
B. Actions by a central bank to influence the money supply. |
| 3. Discount Rate |
C. A sustained increase in the general price level of goods and services in an economy. |
| 4. Reserve Requirement |
D. The fraction of deposits banks must hold in reserve. |
| 5. Monetary Policy |
E. The buying and selling of government securities by a central bank. |
Answers: 1-C, 2-E, 3-A, 4-D, 5-B
✍️ Part B: Fill in the Blanks
The central bank can use several tools to influence the economy. One tool is adjusting the ________ ________, which is the percentage of deposits banks are required to keep in their vaults or at the central bank. Another tool is ________ ________ ________, which involves buying and selling government securities. Finally, the central bank can change the ________ ________, the interest rate at which commercial banks can borrow money directly from the central bank.
Answers: reserve requirement, open market operations, discount rate
🤔 Part C: Critical Thinking
Suppose the economy is experiencing a recession. What monetary policy actions could the central bank take to stimulate economic growth? Explain how these actions would impact interest rates, inflation, and employment.