FINC 310 - Finance Project - Colorado Tech - 612 - 16096

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FINC 310 - Finance Project - Colorado Tech - 612

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Jun. 12, 2011

 

Central banks of the world and their policies effect the US economy are linked in many ways, hence when the decision is being taken on what type of monetary policy to use, international transactions are also taken into account as well as foreign exchange rates are also considered. Furthermore, Federal Reserve’s makes changes in its regulations by looking at the international banking innovations and developments. Also, if an expansionary monetary policy is used by a foreign bank and a contractionary monetary policy is used by US, then savers will save where interest rate is high and will borrow from where interest rate is low. Monetary policy has a direct impact on the inflation, unemployment and exchange rates, thus we as citizens can decide whether to purchase domestic goods or services or go for foreign goods and services. Monetary policy of the foreign banks alter the exchange rates, for instance, if a foreign bank lowers interest rates, the foreign exchange rate will rise and domestic interest rate will be higher than the foreign interest rate thus increasing inflow of capital and balance of payments at the same time. Furthermore, an increase in value of dollar would increase the price of US goods and will lower prices of foreign goods, thus expanding imports and reducing exports, this will lower output and growth in the US economy and unemployment will raise as well, also price levels will decline. Thus national economic goals will be affected. Inflation will be reduced to some extent at the expense of slower growth and high unemployment. Federal Reserve is currently undertaking an expansionary monetary policy by increasing purchase of securities and increasing money supply. It is also aiming at keeping federal funds rate between 0-0-25percent. This is so because, Federal Reserve wants to reduce the levels of unemployment, achieve stable prices, enhance economic growth and decrease inflation.

Another central bank in the world which I will be discussing is People’s Bank of China. Recently, China is increasing the interest rates and reserve requirements as the money supply in the economy is very high and inflation is also high. This excess money supply is gained from surplus in balance of payments and investments of foreigners in China which has boosted inflation the economy. Unemployment level in the economy is low, whereas the economic growth has slowed down in the economy. Banks have tightened lending due to high interest rates and increased reserve requirements. Central banks in the world set monetary policy to stabilize the economy and achieve national economic goals which cannot be otherwise achieved. They have to make sure that the economy