IntroductionMonetary Policy The measures focused on regulating money supply - control inflation and stabilize currency. A tool whereby central banks influence the economy by affecting interest rates and exchange rates. “The set of procedures and measures taken by monetary authorities to manage money supply, interest and exchange rates and to influence credit conditions to achieve certain economic objectives”.
Monetary Functions• Promoting monetary stability due to the developments in the economy.• Formulated and implemented autonomously by the Bank without any external influence
Goal of Monetary Policy• Price stability• Strong sustainable output growth• Low level of unemployment• Satisfactory balance of payments position
Purposes of Conducting Monetary Policy Operations of the Bank• May issue securities in its own name.• May purchase, sell and redeem securities issued by the Bank.• May require a reserve to be held at the Bank by each financial institution.• May undertake such other financial transactions or financial instruments as approved by the Monetary Policy Committee.
Purposes of Conducting Monetary Policy Operations of the Bank• Have the powers: – To enter into contract – Borrow money – Accept assets as collateral, – Act as agent or banker for open and maintain accounts for accept any deposit of gold or money – Purchase, sell or repurchase any certificate of deposit issued by any financial institutions etc.
Conflicts of Monetary Policy• Promote some of these goals often aggravate problems in trying to pursue other goals.• Accepting trade-off among multiple goals. – E.g. to control inflation & protect currency – unemployment & slower economic growth.
How Monetary Policy Works? Lending rate Purchase of More homes on housing houses are loans go ↓ encouraged are built Reduce Economicinterest rate (OPR) activity rises Deposit rates Savings are Consumption go ↓ discouraged increases
BNM Reduces OPR to Stimulate the Economy Economic Interest growth rates below potential O Economic Activity P R Inflation Very Low LoansBalancing growth MP actions Financial sector Household & & inflation businesses
BNM Increases OPR to Constrain the Economy Economic Interest growth rates exceed potential Inflation & Economic O Activity P R Inflation Loans too highBalancing growth MP actions Financial sector Household & & inflation businesses
Key Instruments of Monetary Policy Statutory Reserve Liquidity Assets Requirements (SRR) Requirements (LAR)• Control liquidity situation in the • Expressed as a banking system - eligible liabilities percentage of the• Level of deposits and loans that a eligible liabilities (EL) bank can legally support given the base of the banking size of its reserves institutions• Reduced in an expansionary monetary policy and vice-versa • Operates in a similar manner as the SRR• Safety net put in place for the protection of depositors
Monetary Policy Statement (MPS)• Forward-looking statement outlining the monetary policy stance of BNM in the near term and the rationale for the policy thrust.• Any change in the OPR will be announced in MPS.• At the Monetary Policy Committee (MPC) meeting (8 Sept 2011), Bank Negara
Objective for issuing an MPS• To provide greater understanding of the monetary policy objectives and measures in light of a more complex and dynamics environment.• Help anchor expectations on growth and inflation.• Aimed at increasing the understanding and appreciation of money market participants.• Facilitating a more rapid transmission of the
Reserves Method Excess Reserves = Actual Legal reserve – Required Reserves• Required reserves = Legal reserves requirement x Reserves requirement• Actual legal reserve holdings = Federal reserve account + Vault cash
EXAMPLE 1• A bank holds $100 million in the form of transaction and time and saving deposits. Its reserve deposit at the federal reserve bank during the current reserve maintenance period contains a daily average balance of $5 million an its vault cash holdings have averaged daily $ 500,000 for several week running. Calculate its required reserves and excess reserves if deposits are subject to a 5% legal reserve requirement.
Affect Deposit Institution• The size of the transaction deposit multiplier = 1 RRD + CASH+ EXR + (RRT X TIME)• Value of the money multiplier = 1 + CASH RRD + CASH+ EXR + (RRT X TIME)
EXAMPLE 2• Assume that the public wishes to hold RM0.60 in pocket money and RM0.30 in time deposits. Depository institution plan to keep RM0.20 in excess reserve for each ringgit of transaction money received. If reserves requirement on transaction deposit and time and saving deposit are 5 percent. Calculate:• The size of the transaction deposit multiplier• Value of the money multiplier