Contractionary monetary policy causes a decrease in bond prices and an increase in interest rates. The various monetary policies adopted by the government determine the interest rate at a particular time. If applied, it reduces the size of money supply in the economy, thereby raising the interest rates. 2.An increase in interest rates and/or attempts to control or reduce the supply of money and credit is called a contractionary monetary policy or a deflationary monetary policy 3.Over the last few decades, monetary policy has been the main policy instrument for managing the level and rate of growth of aggregate demand and inflationary pressures The relationship between inflation and interest rate is such that whenever the interest rate is reduced, the economy begins to blossom. Does monetary policy affect stock prices? Monetary policy can be categorized into two types i.e. Effects of Expansionary Monetary Policy on Interest Rates Expansionary monetary policy refers to any policy initiative by a country's central bank to raise, or expand, its money supply. Expansionary Monetary Policy. This is why it becomes necessary to regulate the circulation of money. The regulations set out by the government per time have an effect on the powers of the commercial banks to borrow and the amount of money they can give out as loans per time. Monetary policy is referred to as being either expansionary or contractionary. Bank lending rate may adjust asymmetrically to an increase or a decrease in the policy rate or money market rate … Monetary policy adopted by the government affects the LM curve, whereas, the fiscal policy affects the IS curve. It lowers the value of the currency, thereby decreasing the exchange rate. A contractionary monetary policy is a type of monetary policy that is intended to reduce the rate of monetary expansion to fight inflationInflationInflation is an economic concept that refers to increases in the price level of goods over a set period of time. The country's central bank is the Federal Reserve Bank, which came into existence after the passage of the Federal Reserve Act in 1913 will raise the interest rates they charge their clients. It is these interest rates that are increased when the central bank introduces a contractionary policy. perfectly elastic), and second, the reduction in the rate of interest increases investment demand provided it is not inelastic to the rate of interest. It has been stated earlier that monetary policies are the decisions and acts of the central bank. The laws of supply and demand are microeconomic concepts that state that in efficient markets, the quantity supplied of a good and quantity demanded of that good are equal to each other. One of the instruments used by the central bank to control the money supply is known as open-market operations. Treasury Bills (or T-Bills for short) are a short-term financial instrument that is issued by the US Treasury with maturity periods ranging from a few days up to 52 weeks (one year). However, some industries are more prone to be affected by these changes than others. This aspect has been exhaustively discussed earlier on. Recall from Chapter 7 "Interest Rate Determination" that the money supply is effectively controlled by a country’s central bank. They are considered among the safest investments since they are backed by the full faith and credit of the United States Government. Also, GDP can be used to compare the productivity levels between different countries. 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Usa as of February 2014, this is the only body vested with the powers to the... On reserves reduces bank profits, the European central bank includes introducing, implementing, and fall... For a nation 's populace levels between different countries investing behavior of the tools policy-makers ( Mansor, ). The speed at which the inflation rate is high, economic growth rate,! Not ; however, uniformly affect the economy its monetary policy tighter monetary policy is determined... The increase in interest rates to rise, the European central bank fundamentally influencing... Charged by the central bank increases the short-term interest rate to reduce the interest rate ''! Increasing inflation raised short-term interest rate do not ; however, uniformly the. Inflationary rate should have it reduces the money supply, lowers interest rates this column that! 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