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Yanuar Dananjaya, Bsc.

, MM

Goal of Monetary Policy


High employment

Conduct of Monetary Policy

High economic growth


Low inflation
Interest rate stability
Stability in financial market (stock, bond, money
market)
Stability in exchange rate (at the level consistent with
a country economic strategy)

Yanuar Dananjaya, Bsc., MM

Goal of Monetary Policy


High employment

Conduct of Monetary Policy

Measurement: # of job seeker / # of workforce


Mainly determined by supply and demand of
workforce
Will not reach zero
Frictional unemployment employee change
job, recent graduate. Shows dynamic economy
Structural unemployment mismatch
between job requirement and skill. Cannot be
remedied by monetary policy
Aim to natural rate of unemployment
unemployment only due to frictional and structural.
Australia in 2010/11

Yanuar Dananjaya, Bsc., MM

Goal of Monetary Policy (cont)


High Economic Growth

Conduct of Monetary Policy

Related to high employment


Appropriate inflation level
Not too low, not too high
Ideal 2-3%
Deflation is very dangerous, can lead to economic
stagnation Japan. Once happen, very difficult to
remedy due to liquidity trap.

Yanuar Dananjaya, Bsc., MM

Goal of Monetary Policy (cont)

Conduct of Monetary Policy

Interest rate stability


Avoid uncertainty in the market credit rate,
bond coupon, Required Rate of Return, etc
Enhance central bank credibility easier to set
interest rate
Stability of Financial market
Stability of banking system
Stability of stock market
Stability of bond market
Stability of money market

Yanuar Dananjaya, Bsc., MM

Goal of Monetary Policy (cont)


Stability on Foreign Exchange

Conduct of Monetary Policy

Achieve ideal level of exchange rate


Stability on exchange rate

Yanuar Dananjaya, Bsc., MM

Effect of Interest Rate Change


Increase of interest rate:

Conduct of Monetary Policy

Increase unemployment
Reduce economic growth
Reduce inflation
Strengthen exchange rate

Yanuar Dananjaya, Bsc., MM

Conduct of Monetary Policy

Problems with monetary policy


Conflict between goal Increase rate to lower
inflation means lowering economic growth and
increasing unemployment
Lagged effect of monetary policy:
Recognition lag
Implementation lag
Impact lag
Must be able to predict future economic condition
Must avoid overshoot the target

Yanuar Dananjaya, Bsc., MM

Problems with monetary policy (cont)

Conduct of Monetary Policy

Lowering credibility if too much adjustment of interest


rate or any other central bank policy
Credit crunch CB lowering interest rate but because
economic condition is very bad, banks will not give
credit
Liquidity trap CB lowering interest rate, but because
economic condition is very bad, companies will not
take credit. CB lowering until zero, but still companies
will not take credit. Japan 90s and 2000s, US 2008 now

Yanuar Dananjaya, Bsc., MM

Strategies of monetary policy

Conduct of Monetary Policy

Inflation targeting focus on optimal inflation rate,


expect economic growth rate to follow
Nominal income target focus on achieving a
targeted economic growth. Usually set 3-5%, depends
on history and various factors. Inflation will not go up
too much because people realize once the growth
target achieved, rate will go up.