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Monetary policy

The trinidad Guardian / Monetary policy is the process by which the monetary authority of a country, like the central bank or currency board, controls the supply of money.

It is maintained through actions such as modifying the interest rate, buying or selling government bonds, and changing the amount of money banks are required to keep in the vault (bank reserves).

Broadly speaking, there are two types of monetary policy, expansionary and contractionary.

Expansionary monetary policy increases the money supply in order to lower unemployment, boost private-sector borrowing and consumer spending, and stimulate economy.

Contractionary monetary policy slows the rate of growth in the money supply or outright decreases the money supply in order to control inflation.

While sometimes necessary, contractionary monetary policy can slow economic growth, increase unemployment and depress borrowing and spending by consumers and businesses.

Central banks use a number of tools to shape monetary policy. Open market operations directly affect the money supply through buying short-term government bonds (to expand money supply) or selling them (to contract it).

Benchmark interest rates, such as the London Interbank Offered Rate (LIBOR) in the United Kingdom and the Federal Funds Rate in the US, affect the demand for money by raising or lowering the cost to borrow-in essence, money’s price.

When borrowing is cheap, firms will take on more debt to invest in hiring and expansion; consumers will make larger, long-term purchases with cheap credit; and savers will have more incentive to invest their money in stocks or other assets, rather than earn very little-and perhaps lose money in real terms-through savings accounts.

In T&T, the “Repo Rate” is often used as the benchmark interest rate around which other interests rates in the commercial banking sector are set.

The Central Bank of T&T (CBTT) is also responsible for managing the supply of foreign exchange to the local market.

According to the Central Bank’s website, its responsibilities include (among other things) ” the maintenance of a low and stable rate of inflation, an orderly foreign exchange market, and an adequate level of foreign exchange reserves.”

The CBTT is also referred to as the “Banker to the Government” as it “maintains deposit accounts, effects domestic and foreign currency transactions and provides advice relative to these matters.”

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