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Monetary Policy (Bank of England (Managing foreign reserves (Manages the…
Monetary Policy
Bank of England
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Deciding interest rates
In order to keep UK inflation at a specific rate of 2% (+/- 1%), the Bank of England has sole responsibility for deciding the level of base interest rates.
Lender of last resort
given a liquidity shortage in the banking system the Bank of England will provide funds ‘as a last resort’.
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Quantitative Easing
Bank of England purchases existing government and corporate bonds (gilts) held by pension funds, banks, insurance companies etc in order to pump money directly into the financial system.
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Funds are credited to the investors accounts, which, initially improves their liquidity
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Near-zero interest rates, together with cash hoarding by individuals, corporations and commercial banks, resulted in liquidity being trapped in the banking system, and contributed to the financial crisis.
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Money Supply
Monetarism is closely associated with Classical economics and is an economic philosophy which believes that economic prosperity depends upon understanding and manipulating the link between money and the real economy - that is, prices, output and employment
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Changes in money supply have a direct and measurable effect on expenditure on consumers and firms in the economy
Inflation and deflation are always and everywhere a monetary phenomenon - changes in money are always the cause of price changes.
Fisher equation
MV=PT
If the velocity of circulation (V) and the number of transactions (T) are constant, then changes in the stock of money (M) must lead to the the same proportionate change in prices (P).
The main policy implication is that the monetary authorities should ensure that money supply is effectively controlled, because controlling the money supply means that average prices can be stabilised.
Money Measures
Narrow M0
Notes and coins in circulation outside the Bank of England, plus bankers' operational deposits with the Bank
Broad M4
- Cash (notes and coins) in circulation with the public and firms other than banks;
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- Private sector wholesale bank and building society deposits, e.g. a Merchant Bank
A certificate issued by a bank to a person depositing money for a specified length of time at a specified rate of interest.
- Private sector retail bank and building society deposits;
can be created by...
Treasury bills can also add to the money supply, and this happens when the government borrows from the money market by issuing Treasury bills. Banks treat these bills as being 'as good as cash', and continue to make the same amount of loans to their customers. This is despite the fact they have lost liquidity by buying bills from the Treasury.
the Bank of England, can print new money if the normal flow of liquidity is disrupted, as in the recent financial crisis, i,e,. Quantitative Easing
Whenever banks give new loans to customers,
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