(3) To promote and encourage economic growth in the economy. Money and Business Cycle: Business Cycle is the continuous change in the position of business from … Before publishing your articles on this site, please read the following pages: 1. The Central Bank sells the Government securities to the banks, other depository institutions and the general public through open market operations. //]]> In five of the ten countries, our empirical results support the monetarist position that monetary policy is more important than fiscal policy. To check the demand-pull inflation which has been a major problem in India and several other countries in recent years the adoption of contractionary monetary policy which is popularly called tight monetary policy is called for. On the other hand, in times of inflation and excessive expansion, contractionary monetary policy or what is also called tight money policy is adopted to control inflation and achieve price stability through reducing aggregate demand in the economy. They have argued that monetary rule will have a destabilising effect. Monetary policy is another important instrument with which objectives of macroeconomic policy can be achieved. Economics studies the, vital question of satisfying human wants with scarce resources. economic growth and unemployment). According to Statutory Liquidity Ratio, in addition to the Cash Reserve Ratio (CRR) banks have to keep a certain minimum proportion of their deposits in the form of some specified liquid assets such as Government securities. The interaction between these two determines r0 rate of interest. Study of Economics – Importance and Significance. Tight Monetary Policy to Control Inflation: When aggregate demand rises sharply due to large consumption and investment expenditure or, more importantly, due to the large increase in Government expenditure relative to its revenue resulting in huge budget deficits, a demand-pull inflation occurs in the economy. To understand the importance of monetary policy in the equation, one must first understand what the term means. The importance of economics shows up in our daily lives and in society at large. 29.1. But if the monetary authorities have chosen to stabilise the interest rate, they would adopt tight monetary policy to prevent the interest rate from going up. The bank rate may also be raised which will discourage the banks to take loans from the central bank. Like the fiscal policy the broad objectives of monetary policy are to establish equilibrium at full-employment level of output, to ensure price stability and to promote economic growth of the economy. As is well known, rate of interest is the opportunity cost of funds invested for purchasing capital goods. The expansion in credit or money supply will increase the investment demand which will tend to raise aggregate output and income. Therefore, we can view the money supply as an extension of the monetary base. This is because if the investment demand curve is steep or inelastic, that is, investment is not sensitive to the changes in rate of interest the fall in the rate of interest will fail to cause any significant increase in investment. The barter system had such a problems that they could be removed only by inventing money. With level of investment remaining the same, there is no increase in aggregate demand and the economy remains in a state of depression. Every branch of knowledge has its fundamental discovery. This will have a direct effect on the contraction of money supply in the economy and help in controlling demand-pull inflation. Copyright 10. Besides Cash Reserve Ratio (CRR), the Statutory Liquidity Ratio (SLR) can also be increased through which excess reserves of the banks are mopped up resulting in contraction in credit. Though most of the modern economists regard both fiscal and monetary policies as important tools for stabilising the economy there is a group of economists known as monetarists led by Friedman who think that changes in money supply are the key determinants in the level of economic activity and the price level. This is because there's a limit to the amount of monetary manipulation the Federal Reserve can do to the global value, or exchange rate, if the U.S. dollar plummets. The following monetary measures which constitute tight money policy are generally adopted to control inflation: 1. In April 1996, when Reserve Bank lowered the CRR from 14 per cent to 13 per cent, it was estimated that this would release funds equal to Rs. An important area of focus for economists is determining how changes in monetary policy by central banks like the U.S. Federal Reserve can impact the … That's a contractionary policy. ‘Money buys goods and goods buy money but in a monetary economy goods do not buy goods. All central banks have three tools of monetary policy in common. 29.2. Because the United States economy has experienced its highest point in the last decade (the 2010s), monetary policy that cuts taxes and increased government spending in business and job-creation markets, especially under former President Barack Obama, has led to a decrease in the unemployment rate and a rapid increase in the United States' GDP. It has been argued that the Central Bank cannot simultaneously stabilise both the interest rate and money supply. 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