Among other items that influence interest rates, monetary policy can also be one of them. Democratic governments use two policy tools to aid their economies flourish. There is the fiscal policy and monetary policy.
First, let’s talk about the gap of monetary policy to fiscal policy. Fiscal policy pertains to the energy of this authorities with congresses or parliament’s permission to increase or reduce tax prices. To raise tax rates, would suggest to take away the disposable income of civilians. Think of it this way, the economy is a wheel. The movement of money makes the wheel turn. If people invest less money, the market turns gradually. Hence that the government raises taxation. The extra money the government collects is subsequently spent on projects that will pour money back into firms for government mandated projects. These companies in turn will give them back to the people by employing more employees or by paying their present ones with more. Such spending is also known as “pump-priming” activities.
Another instrument of fiscal policy would be for the government to borrow money for its expenditures. They do this so as not to over tax their citizens and provoke protest actions against their management. However, borrowing is not always an option. Lenders do not easily part with their funds. The general economic environment is placed into consideration.
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But enough about fiscal policy, we’re here to explore the effect of monetary policy on interest prices. Now, bearing in mind that the economy is a wheel with money as the gas, monetary policy is the power of the government to control the circulation of money in its society. When interest rates are high, the propensity of people is to control their spending and as much as possible stay away from borrowing money. This in turn slows down the movement of money in society. So 1 strategy the government employs is to lower down the rates of interest, to entice individuals to borrow money and spend them on projects or businesses. Who among us would not suddenly think of purchasing houses, cars or expansion of current businesses when very low interest rates prevail? Such rates of interest would make you believe that your money will earn more by investing it where yields are higher. When the economy is in danger of overheating (when growth is too fast, threatening a increase in inflation), the government increases interest rates to earn access to excess money more expensive and arrest spending. Usually, such policies are implemented by a central bank that has more influence with creditors such as banks and other financial institutions.
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The main reason that authorities undertake such measures would be to feign or to impede the economic growth through introduction of their monetary policy. Interest rates become a tool to help manage the economy.
In effect, the monetary policy can be gleaned to be tied up with interest rates. However, just as stated earlier, there are a lot of macroeconomic factors that Affect interest prices. Inflation, supply and demand for money and other general Economic indicators are typically related to one another, which then dictates which interest rate to peg.