Exchange Rate Considerations- DB4 - Essay Example

Why are the Heads of the Central Bankers of the United s, the European Union, and Japan listed as the 4th, 5th, and 6th most Powerful Persons in the World Why are the Heads of the Central Bankers of the United States, the European Union, and Japan listed as the 4th, 5th, and 6th most Powerful Persons in the World As heads of the Central Banks of the World leading economies, Ben Bernanke, Jean-Claude Trichet, and Masaaki Shirakawa have considerable influence over global economy through implementation of monetary policy of their respective countries which happens to be the world richest economy.

The goal of monetary policy is to control supply of money through the rate of interest, which ultimately determines the economic stability and sustainable economic growth (Mankiw, 2007). Through constant market transactions, the central banks influence the supply of money and this affects other market variables such as short term interest rates and the exchange rate. A stable money supply plays a crucial role in economic growth. Excessive circulation of currency results in inflation while an insufficient circulation of currency makes it more difficult for consumers and firms to obtain credit to finance large purchases and business expansions.

Given that the United States, the European Union, and Japan are the world richest economies as at the time of the ranking, Ben Bernanke, Jean-Claude Trichet, and Masaaki Shirakawa have considerable influence on the stability and growth of the global economy. In the United States, the Federal Reserve System (Fed) controls the monetary policy through the Federal Open Market Committee with Mr. Ben S. Bernanke as the Chairman. As mentioned above, the ultimate goal of the monetary policy actions of the FRS is to promote sustainable economic growth and stability through control of the availability of currency and credit.

Whatever affects the flow of currency ultimately affects the interest rates and the economic performance. Through its monetary policy tools, the Fed, influence the long-term interest rates set by banks and other financial institutions. High interest rates retard economic growth by making it difficult for households and companies to borrow money. Consumers are less able to afford large purchases, such as new houses and automobiles, while businesses have more difficulty obtaining credit for expansion or investment.

For instance, in 2008, Central Banks lower interest rates to aid global economic growth; indeed, the Fed lowers its key short-term rate from 5.25 percent to as low as zero and plan to lower long-term rates (Samuelson, 2008). During the economic recession, the Fed established several monetary policy tools to provide liquidity to borrowers and investors in key credit markets. Among these tools are the Money Market Investor Funding, the Assets-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility, the Primary Dealer Credit Facility, and the Term Auction Facility among others (Board of Governors of the Federal Reserved System, 2010).

Indeed, these tools improved the performance of the financial markets, banks inclusive (Board of Governors of the Federal Reserved System, 2010). For instance the Term Auction Facility was created to auctions term funds to depository institutions. This Facility protects banks in need of funds to avoid the stigma of failed banks. It also makes it possible for banks to interbank lending of funds. In fact the fundamental reason for the establishment of the Term Auction Facility was because banks refuse to lend to one another and banks in need of funds were afraid to go to the discount window to avoid the stigma of failed banks (The Economist, 2007).

The facility thus provided liquidity to stressed banks which assisted in improving the lending capacity of such banks. The ultimate benefit was that individuals and business organizations can borrow money to carry out their businesses. The facility also assisted international trade because through the swapping of foreign exchange lines, the European Central Bank and Swiss National Bank were opened so that banks in Europe could have access to U.S. dollars (The Economist, 2007). Keynesian theory suggests that higher government spending during economic recession can help the economy to recover quickly, while monetarism champion the importance of controlling the flow of the money supply in order to control inflation.

Given the current economic recession in the United States, the Keynesian theory should be adopted in order to assist the failed banks. In fact by increasing government spending, there will be more money in circulation which will assist investors to finance their businesses and ultimately leads to economic growth. Works Cited Board of Governors of the Federal Reserved System. (2010, April 13). Expired Policy Tools. Retrieved May 19, 2011, from Federal Reserved System: http://www.federalreserve.

gov/monetarypolicy/expiredtools.htm Mankiw, N. G. (2007). Principles of Economics. Mason, OH: South-Western Cengage Learning. Samuelson, R. J. (2008, December 20). Economic Triumvirate. 4. Ben Bernanke 5. Jean-Claude Trichet 6. Masaaki Shirakawa. Retrieved May 19, 2011, from Newsweek: http://www.newsweek.com/2008/12/19/economic-triumvirate.html The Economist. (2007, December 13). Central Banks Unclogging the system: A collaboration over the credit crisis. Retrieved May 19, 2011, from The Economist: http://www.economist.com/node/10278482?

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