How Monetary Policy Affects Businesses in Australia - Case Study Example

Monetary Policy Student’s Name Institution Affiliation Monetary Policy Monetary policy refers to the action and procedure through which the monetary agency of the government of a country controls and monitors the supply and flow of currency in the financial system. The main goal of this policy is to control interest’s rates with the main aim of targeting and advancing the growth of economy as well as maintaining the elevated stability of the economy. The other major imperative goals often include controlling inflation as well as the reduced unemployment in the country. Monetary hypothesis provides deep perception of how to trade the maximum monetary policy. Largely, monetary policy involves anticipations management. Monetary policy balances between the entire supply of money and the rates at which money is issued and released to the economy. In circumstances where control and issuance of money is monopolised or in situations where there is ordinance of currency, issuance done by commercial banks that are linked up to the central bank the monetary policy can change and modify the supply of currency. Therefore, directly or indirectly affecting the interests’ rates and hence attaining the major goals of the monetary policy (Friedman, 1948). Varieties of monetary policy instruments are made available to attain these goals. These include lowering the currency base, raising the rates of interests and increasing backlog demands. All these have an impact of reducing supply of money but can also expand currency supply if changed by reversal. In the short run, the policy affects inflation as well as the economy’s demand for commodities and services, and thus, the demand for workers manufacturing the goods or providing the services largely through its effect on the financial conditions confronting households and businesses (Federal Reserves, 2012). In the short and long term, in case the interests’ rates for central bank lending are decreased, many firms borrow more and households are better placed to buy more goods and services. At the same time, firms are devising ways to increase production to meet the demands of the household. This prompts them to expand their firms to increase the production and cater for the demands of the household. Because of expansion of the firms, many opportunity chances are created resulting to creation of employment opportunities. Similarly, when the federal currency rates are reduced, the prices of goods and services are reduced and thus demand increases. Monetary policy can also influence and predicts future performance and state of economy in a country. It can affect anticipations on prices of goods and services as well as those of wages. With regard to this policy, the discussion will involve how it influences the businesses in Australia and the United States. How Monetary Policy Affects Businesses in Australia In Australia, the monetary agency accountable for the policy is called the Reserve Bank. It entails planning the interest rate on all night loans in the currency market ‘cash rate’. This rate affects other interests’ charges in the economy, influencing the conduct of borrowers as well as lenders, economic activity and eventually the inflation rate (RBA, 2013). In Australia, the processes that are taken by the reserve bank of Australia impact on both the financial terms in the currency exchange market as well as monetary. This aids in attaining the main economic goals of sustainable development as well as low inflation. The reserve bank is the major government monetary agency that plays a vital role in developing and governing the monetary policy (Hossain, 2009). To attain low inflation economical development the Reserve Bank of Australia fixes ‘cash rate’. This is the interest rates on overnight currency. Cash rate can be defined as, the interest rate, which is paid by financial institutions to borrow or charge to funds loaned in the marketplace on an overnight means. The measure is also referred to as the interbank overnight rate (HSC, n.d). The change in reserve bank demands for currency exchange influences the cash rates. When commercial banks make payments to the reserve banks, there is reduction of funds; this bank must raise the provision of exchange settlement money to control and sustain cash rates. The main objectives of the monetary policy in Australia include lowering inflation rate to about 2% to 3%, creating overall employment, which is not because of increased inflation and obtain a growth in economy to enhance the welfare and the living conditions of the people of Australia. Reverse bank uses several checklists that form and indicate economic growth. These include levels changes in trends in various economic aspects such as unemployment, employment, consumer expenditures, and investment expenditures in business sector among other many external factors. Changes in various trends of the checklists direct and help the reverse bank to make decisions as pertains to the monetary position in the country. Reserve bank controls monetary policy using several strategies (Bordo, 2008). Deviations in monetary positions prompt the enhancement of money supply in the market. To tighten the stance the reverse bank takes new Repos and CGS and sells them in the financial market. This results to decreased supply of money, which in turn makes the cost of borrowing to raise hence putting pressure on the interest rates. How Monetary Policy Affects Businesses in the US In the US, the agency in control of this policy is the Federal Reserve. Through performance of activities that influences the interest rate; it is able to control the monetary position in the businesses. The United State economy is the largest economy in the world, and therefore, with no doubts Australian economy is smaller. The main goals of the US monetary policy are to promote high sustainable output, increase employment opportunities and to promote low inflation or otherwise stable prices. To achieve maximum sustainable output as well as employment there has to be increased production in the long run of both goods and services. This necessitates the businesses to observe the factors of production and strategy objectives for the monetary policy to enhance their output. If businesses are performing properly, employment opportunities also rise (FTBSF, 2011). The Federal Reserve sets the important tools of the United State monetary policy. Federal Reserve controls inflation levels, employment levels as well as sustainable output indirectly through adjustments rates of interest under a short-term period. The Federal Reserve does this through raising or lowering of federal funds rates or otherwise interest rates. Using the federal funds market, the Federal Reserve is able to achieve this objective via open market operations. Inflation levels affect businesses directly; high levels of inflation affect businesses negatively (Forder, 2004). Businesses, such as banks are affected by the policy; for instance, the commercial banks in United States are required to hold certain fixed minimum reserve funds in the Federal Reserve in order to cope with anticipated outflow. However, many commercial banks keep extra funds as reserve prior to clearing their overnight checks. Through buying and selling of securities in the open market operations, Federal Reserve alters and regulates the supply of reserves in the entire system of banking. Banks are able to borrow from the Federal Reserve at some specific discounts rates. This shows a clear difference between how the Australian Reserve Bank and the Federal Reserve of the United State address the monetary policy in the business arena. Criteria for Assessing Monetary Policy in Each of the Country and the Most Effective Criteria The assessment of the monetary policy in the two countries is based mainly on monitoring of inflation levels and level of sustainable output of the businesses in each country. Through assessing of price developments in each of the country and subsequent depiction of the inflation level, monetary policy can be assessed. Increased and rising prices of goods and services in a country can be due to unfavourable monetary policies, such as increase in cash rates in Australia or increase in federal rates in the United States, which prompt the businesses to lower production due to increased cost of production because of high interest rates in borrowing. This can subsequently lower employment opportunities. This is because businesses expansion is limited because the level of production is reduced. In addition, due to high inflation rates, some businesses may close down thereby increasing the number of unemployed people in the country. Similarly through assessment of sustainable output in businesses and subsequent hypothesis formulation, monetary policy can either be assessed as whether it is favourable or unfavourable to the country. In favourable monetary policy, there is relative balance in output, employment chances as well as the prices of both goods and services (Friedman, 2001). The assessment of monetary policy through monitoring of price development is the most efficient criteria to use. This is because price developments are able to monitor the inflation rates, output level and the employment chances (these are factors that affect businesses directly) in a country unlike other methods of monetary policy assessments strategies. References Bordo, M. (2008). Monetary policy, history of, The New Palgrave Dictionary of Economics, 2nd Ed. Pre-publication copy. Federal Reserve. (2012). How does monetary policy influence inflation and employment. Retrieved from http://www.federalreserve.gov/faqs/money_12856.htm Friedman, B.M. (2001). Monetary policy. International Encyclopedia of the Social & Behavioral Sciences, 9976-9984. Friedman, M. (1948). A monetary and fiscal framework for economic stability. American Economic Review, 38(3), 245-264 Forder, J. (2004). Credibility in context: Do central bankers and economists interpret the term differently? Economic Journals Watch FTBSF. (2011). US monetary policy: An introduction. Retrieved from http://www.frbsf.org/publications/federalreserve/monetary/index.html Hossain, A. (2009). Central banking and monetary policy in the Asia-Pacific. Edward Elgar Publishing. HSC. (n.d). Monetary policy. Retrieved from http://hsc.csu.edu.au/economics/policies_mgt/2592/Topic4Tutorial1.html RBA. (2013). Monetary policy. Retrieved from http://www.rba.gov.au/monetary-policy/ Rogoff, K. (1985). The optimal commitment to an intermediate monetary target. Quarterly Journal Economics, 100, 1169-1189 Read More