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Chapter 21, Part III. A Bit More on Monetary Policy. Page 2

Discussion in 'Complete Trading Education- Forex Military School' started by Sive Morten, Dec 22, 2013.

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  1. Sive Morten

    Sive Morten Special Consultant to the FPA

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    Pipruit: All right, but how we can understand what kind of policy currently stands?


    Commander in Pips: You can catch it on the steps that each Central Bank makes. There could be just two major ways of monetary policy – easing and tightening. A tightening policy also calls as contractionary or restrictive, since it applies to hold onto inflation, to contract it, tighten excessive money supply. The opposite monetary policy is a policy of easing, since it us used when Central Bank wants to make economic growth easy, liberalize interest rates and expand growth. Do you understand something?


    Pipruit: I guess. So, Contractionary policy is applied by a Central Bank when the economy becomes overheated and inflation growth is significant. To tighten up excessive money and reduce inflation, the Central Bank starts to raise interest rates. The cost of money gradually increases, borrowing become more expensive, so companies can’t support growth at the same pace because it becomes less profitable. As a result, the economy start to chill, demand for raw materials and commodities decreases, their price stops growing and bingo – goods prices also become stable – inflation is bridled.

    The easing policy or expansionary applied is by a Central Bank when the economy falls into contraction and the pace of growth is significantly reduced. Usually, when an economy is contracting, inflation stands near zero or even could be negative, since demand for goods decreases or is stable, as production. Then more people turn to saving, since rates are high. In such circumstances the Central Bank has to stimulate growth. For that purpose it reduces interest rates. The cost of borrowing starts to decrease while it becomes attractive to invest in companies and to finance development. All participants start to borrow more – companies to invest into development, the public to purchase different goods and real estate, since it becomes cheaper. The economy turns to growth.
     
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