• Document: EC3115 Monetary Economics
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EC3115 :: L.5 : Monetary policy tools and targets Almaty, KZ :: 2 October 2015 EC3115 Monetary Economics Lecture 5: Monetary policy tools and targets Anuar D. Ushbayev International School of Economics Kazakh-British Technical University https://anuarushbayev.wordpress.com/teaching/ec3115-2015/ Tengri Partners | Merchant Banking & Private Equity a.ushbayev@tengripartners.com – www.tengripartners.com Almaty, Kazakhstan, 2 October 2015 ISE – KBTU A.D. Ushbayev (2015) EC3115 :: L.5 : Monetary policy tools and targets - 2 / 32 - Relevant reading Book treatment F. Mishkin. (2013). The Economics of Money, Banking and Financial Mar- kets, 10th edition, Pearson Education, Chapters 16, 17. D. Cobham. (2002). The Making of Monetary Policy in the UK, 1975-2000, London: Wiley. Must-read articles A. Grimes. (2014). “Four Lectures on Central Banking”, Motu Working Paper 14-02, Motu Economic and Public Policy Research, Wellington. ISE – KBTU A.D. Ushbayev (2015) EC3115 :: L.5 : Monetary policy tools and targets - 3 / 32 - The toolkit – basics Section 1 The toolkit – basics ISE – KBTU A.D. Ushbayev (2015) EC3115 :: L.5 : Monetary policy tools and targets - 4 / 32 - The toolkit – basics Main tools of monetary policy Open Market Operations (OMOs) directly affects the quantity of reserves and (hence) the monetary base Standing facilities directly set lower and upper bounds for money market interest rates Reserve requirements directly affect the demand for reserves Foreign exchange interventions1 directly affect the quantity of reserves, the monetary base and the nominal exchange rate 1 We shall ignore the FX dimension for now, but we will return to it in the second part of this course. ISE – KBTU A.D. Ushbayev (2015) EC3115 :: L.5 : Monetary policy tools and targets - 5 / 32 - The toolkit – basics Virtually all central banks follow: a macroeconomic mandate of price stability a microeconomic mandate of stability of national payment systems The macroeconomic mandate usually gets formulated as a goal to continuously achieve a certain nominal target, or anchor, by varying the stance of monetary policy. To achieve their goals successfully, central banks have to have a credible combination of instruments and their systematic use directed at achieving such goals, which most often necessitates the use of an operating target. Now, virtually all central banks have their own intermediate operating interest rate target (usually a short term one, such as the overnight or weekly rate), which they use as the main indicator of the stance of monetary policy and which they will manipulate in order to achieve their medium- to long-term goals2 . 2 Exceptions are central banks that operate in the regimes of currency board or rigidly pegged exchange rates – to be discussed later in this course. ISE – KBTU A.D. Ushbayev (2015) EC3115 :: L.5 : Monetary policy tools and targets - 6 / 32 - The toolkit – basics The market for reserve balances (demanded primarily for payment settlement and reserve requirement compliance) is where the overnight interest rate is determined. In many countries the infrastructure of the pure market for reserves is augmented by an interest rate corridor regime, arising from the central bank’s use of standing facilities for the provision and withdrawal of liquidity. Market equilibrium occurs where the total quantity of reserves demanded equals the total quantity of reserves supplied, thus dynamically determining the overnight rate. T Rd

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