Monetary policy
| English | Chinese | Pinyin |
|---|---|---|
| central bank | 中央银行 | zhōng yāng yín háng |
| interest rates | 利率 | lì lǜ |
| monetary policy | 货币政策 | huò bì zhèng cè |
| money supply | 货币供给 | huò bì gōng jǐ |
| inflation target | 通胀目标 | tōng zhàng mù biāo |
| transmission mechanism | 传导机制 | chuán dǎo jī zhì |
| quantitative easing | 量化宽松 | liàng huà kuān sōng |
The most powerful number in the economy
- When a central bank 中央银行 nudges interest rates 利率, mortgages, business loans and savings all move — and with them, spending across the whole economy.
- Monetary policy 货币政策 — controlling interest rates and the money supply 货币供给 — is the main day-to-day tool for hitting the inflation target 通胀目标.
Monetary policy is set by the central bank, whereas fiscal policy is set by the government.
Central bank = monetary (rates); government = fiscal (spending/taxes).
The central bank and interest rates
- An independent central bank sets the base interest rate to meet an inflation target (often ~2%).
- Raise rates → borrowing dearer, saving more attractive → spending falls (contractionary).
- Cut rates → borrowing cheaper → spending rises (expansionary).
A central bank, like the Bank of England, sets the interest rate, the main tool of monetary policy
Monetary policy shifts AD
Changing interest rates moves aggregate demand. Lower rates → more borrowing and spending → AD shifts right.
Monetary policy is mainly conducted by changing:
The central bank uses interest rates and the money supply; spending/taxes are fiscal policy.
Cutting interest rates tends to:
Cheaper borrowing and lower saving rewards boost consumption and investment → AD right.
To reduce high inflation, a central bank would typically:
Higher rates cool borrowing and spending, reducing demand-pull inflation.
The transmission mechanism 传导机制
- Lower rates → cheaper loans + lower saving reward → more consumption and investment → AD shifts right.
- A weaker currency (from lower rates) also boosts net exports.
Lower interest rates raise consumption and investment, shifting AD right toward higher output.
Quantitative easing 量化宽松
- When rates are already near zero, the bank can use quantitative easing (QE) — creating money to buy bonds, lowering long-term rates and boosting lending.
Monetary ≠ fiscal. Monetary policy is the central bank (interest rates, money supply); fiscal policy is the government (spending, taxes). Exam answers must keep them separate.
How a higher interest rate works through to slow inflation
Creating money to buy bonds when rates are near zero is called quantitative ______.
Quantitative easing (QE) lowers long-term rates and boosts lending.
You've got it
- monetary policy = the central bank setting interest rates / money supply for the inflation target
- lower rates → more borrowing/spending → AD right; higher rates restrain AD
- QE (creating money to buy bonds) is used when rates are near zero