European Central Bank - Essay Example

European Central Bank al Affiliation) ECB has made several decisions in the market and implemented some of the actions that improves their productivity and also enhances the competition for their product and services. Monetary policy decision is one hat have been made in the market. The decisions that are made in the monetary policy focuses mainly in the interest rates. The key interest rates that are brought about for the euro are set by the governing council (King, 1979). The interest rates are the main refinancing operations which provides bulk of liquidity in normal way and this is to the banking system. The policy allows the execution of its tenders in the form of variable tenants that are fixed by the euro system. Another key interest rate is that on the deposit faculty done to the banks that are used to make the deposits overnight with the euro system (Culbertson, 1968). Another key interest rate is the rate in the marginal lending faculty which offers them the credit to bank from the euro system Nonstandard measures are also used in the policy that arose after the financial crisis in 2008. The introduced the policies that are unprecedented in the nature and the magnitude with their main aim in the safeguarding the primary objectives that involves primary objectives in the stabilization of prices and also in the ensuring that the appropriate policies on the transmission mechanism of the money. The monetary brings about the definition of money as the stock of asserts that can be accepted in the making of transactions. The used of the money in the system is brought clearly as the medium that is used in the exchange of goods and services (Culbertson, 1968). Money is valued in the store of value of asserts ion the economy. The medium is a unit of account that makes the ability in the measure of values and prices. The functions of the money in the economy makes it to have policies that will control the supply in the economy. The control of the supply in the economy is done majorly through the central banks. In Europe the European central bank uses different policies in the regulation of the supply. The central bank in Europe reviewed the policies in 2013 and included different values in the policies in the MO there were different assets included which were the total stock and coins in the circulation and includes also the operational deposits of the banks that are held in the central bank. Another asset that is included in the policy is the MO with also the inclusion of deposits that are held residents at banks and also in the building societies (Krugman, and Wells, 2009). The policies that were implemented captured the financial intermediaries in the European country. The intermediaries are the ones that take deposits from the household and firms and they also make loan to the other household and firms (Modigliani, 1986). The regulation I s done since the intermediaries that includes the commercial banks and the building societies can give more loans to the society increasing the money that circulate in the economy. In the control of money in the economy, the commercial banks have implemented the balancing act where there is consideration of profit and the prudence. Through the policy and the act, the commercial banks aim in the maximizing of the net worth of its shareholders and in the achieving of this the banks makes risky loans at a given interest rate that is higher than the ones that are paid in the deposits (Culbertson, 1968). In conducting of the activities, the bank balances profit and the prudence. The loans that are given by the banks generate high profit but the depositors also have to get access to their funds in the bank at the time that they need them. Security of the depositors in the bank is also necessary and in the aim of the achievement of this, the banks usually divides the funds that they have into two sections, loans and reverses (King, 1979). The reverses are the cash in a bank’s vault and are the deposit in the central bank. The lending that are done to the banks take the form of liquid assets, the investment securities and loans. The spreading of the money in the economy is also done by the financial intermediaries through the make a profit from the spread between the interest that is paid on the deposits and the interest rates that they do in the lending (Modigliani, 1986). The spread of the existence is done through services that include together with creating liquidity, minimizing the cost that is used in the attaining of the funds, minimizing the cost in the monitoring of borrowers and also the pooling of risks.in the situation, the money that is supplied to the economy the current accounts plus the deposits. The money supply equals currency plus demand (current account) deposits: M = C + D Money supply = currency + demand deposits In the different systems and policies, a fractional reverse sit does not system creates money to the economy but it does not create wealth to the country or the society (Pindyck, 1973). The loans that are attained from the banks give the borrowers new money and also they are given equal amount of new debts that they are needed to settle. ECB can change the money base that they use through different factors and policies. The bank can use the open market operations through which they involve themselves in the buying of government bonds and paying them with increased and new charge (McConnell and Brue, 2005). The banks also can use the bank rates in the changing of the policies. The bank rate can be used when the discount rates are lowered encouraging the banks to borrow more of the reserves. The reverse ration can also be reduced through the reduction in the reverse requirements. The reverse deposit ratio can also be reduced through the interest rates on the reserves. The control of the money in ECB cannot be attained correctly considering some factors. Quantitative easing: the ECB Fed bought long-term government bonds instead of T-bills to reduce long-term rates. The ECB Fed also bought mortgage-backed securities to help the housing market. But after losses on bad loans, banks tightened lending standards and increased excess reserves, causing money multiplier to fall (Vroey and Hoover, 2004). If banks start lending more as economy recovers, rapid money growth may cause inflation. To prevent, the ECB Fed is considering various “exit strategies”, i.e. tapering IS-LM model The model is used in microeconomics in the demonstration of the relationship that occurs between the interest rates in the banks and the financial institution and the output that comes from the goods and services in the society and the central banks that are in charge in the making of money. In the plot that is done to the model, the point where the IS and the IM intersect in the curves is the general equilibrium in both the markets (Krugman, and Wells, 2009). The intersections that occur can be in two ways such that the first model can be that that explains the national income where the prices in the economy is fixed in the short run. In the second scenario the interception aggregate the shift in the demand curve (Pindyck, 1973). The policy is used in the analysis of the fluctuation in the market and also in the finding of the appropriate means through which the policies in the market can be stabilized. The hypothesis that is brought about by the government is that of the fiscal policy which has got the effect that is similar to that of the savings that are low rated and also increase in the private investments that results to the increase in the amount of goods that can be given considering the individuals interest rates. When the graph of the model is plotted, the hypothesis that is got from the graph indicates the major criticism in the deficit spending to be used as a way to stimulate the economy. The stimulation can be through the rising in the interest rates that leads to the crowding out in the economy (Krugman, and Wells, 2009). The achievement is got through the discouragement of the fixed investment in the private sector and the long term in the supply side of the economy. The shift that occur in the graph to the right comes about due to the increase in the investments for other reasons that are there apart from the income of the individuals or the interest rates (Pindyck, 1973). AD-AS model The model is used in microeconomics and it explain the relationship that exists between the aggregation demand and the aggregation supply in the economy. The model is based on several theories and it is the one of those primary simplified representation in the microeconomics field (McConnell and Brue, 2005). The model is based on the theory that states that the supply in the economy leads to the creation of own demand in the same economy, the theory depicts the aggregate supply curve to be vertical always and not just only in the long run analysis. The aggregate demand curve brings the equilibrium income at the different levels that leads to potentiality in the potential price (McConnell and Brue, 2005). The model shows the combination of the price level and the level in which the output comes in the market simultaneously in the equilibrium. When the LM curves in the model shifts downwards to the right, it depicts that both the goods and services that are offered in the economy get cleared and this also brings the new output and also the correspondence to the low price levels (Vroey and Hoover, 2004). . The model states that an increase in the money stock that flows leads to the high real money stock at each level in the correspondence to the price (Friedman, 1975). In the asset market, interest rate reduction brings about the public to hold higher balances that are real. In case of the monetary expansion, there is effect on the curve of the model through which the aggregate demand curve will shift to the right. Stabilization policy In the consideration of the stabilization policy there is need to bring out whether the policy should be active or passive. In the active policy the rescission that occurs causes economic hardship that affects many people. The policy is continuous and responsible for the promotion of the full employment in the economy. The active policy also considers the model of the aggregate demand and supply in the economy and shows the fiscal and monetary policy response to the dilemma the stabilization of the economy. In the argument against the active policy there is the effect of the long and variable lags (Friedman, 1975). In the inside lag, there is the time between the shock and the policy response in the implementation of changes. The problems are the time that is taken to recognize the shock and the implementation of the policy that has come about. The outside lag is that time that is taken for the policy to affect the operation of the economy. In the stabilization, there is automatic stabilizers in which the policies that are in place stimulates the economy when there is necessity without any deliberate policy change (Modigliani, 1986). The automatic stabilizers in the economy includes income tax, unemployment insurance and also most of the welfare programs in the economy. Forecasting in microeconomics is necessary due to the fact that the economy acts with a lot of lags. This make the ones responsible in the making of the policies to predict the future conditions that are able to occur in the economy (Friedman, 1975). In the prediction, there is leading economic indicators. These are the data series that fluctuate in advance of the economy before other fluctuations are able to occur. Macroeconomic models are also considered in the forecasting. The large scale models leads to the estimation of the perimeters that can be used in the foretelling the response to the shocks and the policies most of the forecasting that are done by the policy makers are always wrong and gives the reason why the economist always oppose policy activism. Lucas Criticue contributed to the study on stabilization and he pointed out that the predictions that are done by the policy makers would most of the time be valid when the policy that is predicted changes the fundamental relationship between the variables used (Vroey and Hoover, 2004). . In the prediction that money growth rate in an economy will lead to the reduction in employment, he points out that increasing the growth of money may lead to the rise in expected inflation in the case that employment would not fall. In stabilization the factor of rule and discretion should be considered. The policy that are conducted by rule is that where the policy makers announces early how the policy that is to be implemented will respond in the different situations and commit themselves to them. Policy that is conducted through discretion is that were as events occur, and the circumstances change, the policy makers uses the judgment and apply any policy that they think to be appropriate at the given time. There have been arguments for rules where the distrust of the policy makers and the political process results to misinformed politicians and also that the interest of the politicians will differ with that of the society (Friedman, 1975). The time inconsistency has also been an argument. This is the situation where the policy makers have an incentive on the policy that had been announced. Monetary policy rules state that constant money supply in the society supply the growth rate in the same economy. The rules also state Taylor Rule where there is consideration of the inflation rate and the gap that is between the actual and the full employment with the consideration of the short term interest rate. ECB follows Taylor rule and this can be demonstrated through the use of a graph In the graph representation it is seen that the rule that was used by Taylor was also followed by the European central bank. The rule also can be proved with the following graph References Culbertson, J. (1968). Macroeconomic theory and stabilization policy. New York: McGraw-Hill. Friedman, B. (1975). Economic stabilization policy. Amsterdam: North-Holland Pub. Co. King, J. (1979). Stabilization policy in an African setting. London: Heinemann Educational. Krugman, P. and Wells, R. (2009). Economics. New York: Worth Publishers. McConnell, C. and Brue, S. (2005). Macroeconomics. Boston: McGraw-Hill/Irwin. Modigliani, F. (1986). The debate over stabilization policy. Cambridge [Cambridgeshire]: Cambridge University Press. Pindyck, R. (1973). Optimal planning for economic stabilization. Amsterdam: North-Holland Pub. Co. Romer, D. (2000). Keynesian macroeconomics without the LM curve. Cambridge, MA: National Bureau of Economic Research. Snowdon, B. and Vane, H. (2002). An encyclopedia of macroeconomics. Cheltenham, UK: E. Elgar. Turnovsky, S. (1990). International macroeconomic stabilization policy. Cambridge, Mass., USA: B. Blackwell. Vroey, M. and Hoover, K. (2004). The IS-LM model. Durham, N.C.: Duke University Press. Wikipedia, S. (2013). Economics curves. [S.l.]: University-Press Org. Woodford, M. (2010). Optimal monetary stabilization policy. Cambridge, Mass.: National Bureau of Economic Research. Read More