Expansionary Monetary Policy And Contractionary Monetary Policy – Difference
Federal Reserve System that we are having today, it was brought into existence after the introduction of Federal Reserve Act in the era of 1913. This act of Federal Reserve established a complete central banking system so that United States could be protected against the monetary disasters by managing and controlling the monetary policy. This policy is actually the sum of all necessary actions that are exercised by the central banks to maintain and control the supply of money and credit. Federal Reserve System actually controls the monetary policy with the help of the open market operations, reserve requirements and the discount rate.
History of Federal Reserve System:
According to the Federal Reserve Act, 12 Federal Reserve banks were being established in which each bank was responsible for its particular section of country. These private banks were administered by the 7 member of Federal Reserve Board. In 1930, the Board of Governors was changed by the Federal Reserve Board. And the people were selected to form a Federal Open Market Committee. This Committee has a significant impact on the monetary policies in Federal Reserve System.
Open Market operations (OMO):
This type of operations are monitored by Federal Open market Committee and the operations are related to the sales and purchases of treasury securities of U.S. the basic purpose of these open market operations is to try to raise the circulation of Federal Reserves or to maintain the prices of the treasury securities of U.S. Open market operations are actually considered as the most authentic way to control the monetary policies.
Each and every commercial bank borrows money from its relevant regional Federal Reserve Bank and this money is borrowed at an interest rate that is called Discount rate. The regional Federal Reserve Bank from which each commercial bank takes money is regarded as the discount window. This bank offers three discount window plans at three different discount rates. These are primary credits then secondary credits and then seasonal credits. In starting these rates are established by the directors of regional reserve banks. And these rates are evaluated by the board of governors of Federal Reserve System.
The Reserve Requirements:
These are the requirements that decide the amount of reserves that each and every banking institution is demanded to keep on hand every time. The Board of Governors is entitled to control the reserve requirements and these requirements are being presented in the form of ratio. These ratios are being utilized on the amount of assets of an institution that are known as reservable liabilities.
This policy can be expansionary monetary policy or contractionary monetary policy. When there is the time of recession, the Federal Reserve exercises an expansionary monetary policy so that the interest could be lower down. It will help in gaining the economy back. When there is period of high inflation, the Federal Reserve institution apply the contractionary monetary policy because it will raise the rate of interest and keep the inflation down. And the economy will progress.