The advantages and disadvantages of monetary policy are the guiding principles on how authorities will control the money supply in an economy. Authorities must ensure they maximize the advantages of monetary policy and lower the impacts of disadvantages of monetary policy.
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Monetary Policy Meaning
It is the control intervention by a government through the Central Banks to control the quantity of money in circulation. The main aim of monetary policy is to curb the inflation rate, minimize unemployment and encourage economies to grow steadily.
Why Monetary Policy?
Any country that wishes to operate at an optimum economic level has to control the amount of money in circulation. A stable economic environment is paramount for such a country to thrive. Monetary policy ensures there is not too much money or too little money circulating through financial institutions, multinational corporations, and investors.
This phenomenon brings about enacting policies or regulations to help bring the economy under sustainable control. Monetary policy could be used alongside or as an alternative to fiscal policy.
What Is the Role of Monetary Policy in The Economy?
1. Control inflation
The Central Bank has the mandate to keep the inflation rate as low as possible. It ensures stability in the prices of goods and services and brings about economic growth.
2. Stability in foreign exchange
The currency’s value has to be maintained to allow the cross-border purchases to become moderate.
3. Stability in the financial system
Central banks ensure that financial institutions and investors operate in a legal environment. This enhances the ease of movement of funds and ensures reserves are kept.
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What Are 2 Types of Monetary Policy?
The two types of monetary policy are:
1. Expansionary monetary policy
2. Contractionary monetary policy
Advantages of Monetary Policy
1. Higher levels of economic activity
Expansionary monetary policies aiming to lower interest rates encourage more borrowing and higher spending. This has a ripple effect of increasing economic activity within and outside the nation.
2. Weak Currency, more exports
Devaluation of currency leads to lower prices, and this encourages exports.[1] The low prices of goods attract investors and increase such activity between nations.
3. Independent nature of Central Banks
Carrying out control over the economy affects monetary policies since the central banks are independent and usually not affected by the political environment.
4. Lower rates of inflation
Expansionary monetary helps to control inflation, ensuring prices remain steady. Lower inflation rates ensure the economy grows steadily, making certain economic conditions predictable. This may help forecast the future.
5. Easy to implement
Implementing monetary policies is fairly easy since the central bank only has to notify the relevant stakeholders to act accordingly.
6. Enhancing transparency
Expansionary monetary policies enhance transparency, especially through open market operations. It allows investors to make informed decisions about the attractiveness of a particular country’s economy based on the monetary policies expected to be adopted soon. It also establishes avenues where investors can forecast the future movements of economic variables and take the necessary actions.
7. Lower mortgage payment rates
Lower interest rates on real estate properties will encourage buyers to seek mortgage loans. Mortgage rates become affordable and payment terms more flexible to allow borrowers to secure good housing. This is a ripple effect of expansionary monetary policy through low rates on land.
Disadvantages of Monetary Policy
1. Little effect on a global recession period
Monetary policies can effectively be implemented within a country’s borders and have little effect when the world economy is undergoing recession and recovery. Due to the bureaucracy involved, countries may not act as fast as required to impact the world economy significantly.
2. No guarantee of recovery in the economy
Expansionary monetary policies do not necessarily guarantee economic growth. Not all individuals are triggered to take advantage of lower interest rates. It results to lower than anticipated spending on commodities.
3. Discouraging expansion
Contractionary monetary policies can discourage the expansion of companies and other business entities. The high-interest rates charged on money borrowed discourage borrowing of money for business expansion. This may entirely cripple some businesses and force them to go under receivership.
4. Discouraging imports
A reduction in the value of a currency can cause purchases from international sellers to become expensive. This reduces the quantity of imports into the economy.
5. General and not localized impact
Certain localities within a nation may not necessarily need a monetary policy. The monetary policies are general and may affect areas that may not necessarily need to be affected.
6. Longer implementation period
Normally the effects of monetary policy may not be realized until the damage is already visible in the economy. These recovery policies may take longer to be put into action to try and salvage the economy from total collapse.
References
1. Reuters Staff, (SEPTEMBER 28, 2015). Weak currencies boost exports; pain ahead for commodity exporters: IMF
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