monetry policy

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  • Created by: annie.m13
  • Created on: 27-04-18 19:44
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  • monetry policy
    • involves altering the base interest rates
      • determines all other interest rates in the economy
    • monetary policy committee (mpc)
      • run by the bank of england
      • responsible for the monetary policy in the uk
    • intrerest rate policy
      • takes 2 yrs for the rate to affects inflation
      • interest rate transmission mechanism
        • influences AD because
          • it changes household spending
          • changes repayments effecting peoples disposable incomes
          • influences new spending
          • changes asset values - fall in rates increases profitability = higher dividends
            • rate fall makes saving less attractive and increases the prices of property and demand increases
          • affects exchange rates which heavily effect exports and imports
    • consequences of changing interest rates
      • lowering rates
        • saving is discouraged
          • ecourages spending
            • shifts AD right
        • new borrowing is encouraged
          • investment increases
            • shifts AD right
      • final effect on real output and price level depends on the elasticity of AS
      • increasing rates
        • saving encouraged
          • disintentivies spending
            • AD shifts left
        • new borrowing is discouraged
          • investment decreases
            • AD shifts left
    • quantitative easing
      • indroduces new money into the economy when interest rates are approaching 0
    • evaluation
      • advantages
        • direct effect on household spending
          • uk consumers are highly interest rate elastic
        • mpc is independent from the gov and so is free from political interference
        • can be adjusted on a monthly basis
        • almost an immediate effect on confidence
      • disadvantages
        • a duel economy
          • where the service sector is booming and needs high rates but the manufacturing sector is depressed and needs loe rates
        • money supply is hard to control
        • interest rates my fall close to 0 in times of a recession and the economy might fall into a liquidity trap
          • The liquidity trap is the situation in which the current interest rates are low and savings rates are high, rendering monetary policy ineffective. In a liquidity trap, consumers choose to avoid bonds and keep their funds in savings because of the prevailing belief that interest rates will soon rise.
        • may be negative effects
          • raising interest rates can negatively effect investment spending
            • investment decreases
              • and the housing market
                • and the exchange rate
                  • and thus the balance of payments
    • intrerest rate policy
      • takes 2 yrs for the rate to affects inflation
      • interest rate transmission mechanism
        • influences AD because
          • it changes household spending
          • changes repayments effecting peoples disposable incomes
          • influences new spending
          • changes asset values - fall in rates increases profitability = higher dividends
            • rate fall makes saving less attractive and increases the prices of property and demand increases
          • affects exchange rates which heavily effect exports and imports

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