Monetary Policy in Depression:
In the atmosphere of depression, there is a need to encourage investment and so the loans are made cheaper to stimulate investment and increase the demand by increasing income and employment because a cheap money policy will discourage saving and promote investment.
It is said that the Monetary Policy has less scope in depression and fails to bring the economy out of depression, as the MEC is low and so the businessmen are scared to invest, even though the rate of interest is low. Rate of interest is the factor but not the only factor for investment.
Businessmen borrow when the business is expanding not when it is declining. However, we cannot say it is totally useless because it can stimulate demand for durable goods and private investment. But open market operation can increase the liquidity overall in the economy. Even if credit policy cannot turn the business cycle, it can create the necessary atmosphere for the other policies to be successful.
Monetary Policy in Inflation:
Inflation is faced at the prosperity phase when MEC is high, rising prices, output and employment. The condition in the economy is very optimistic and business activities are rapidly increasing. Though his condition cannot go on continuously, with the increase in consumer spending and investment spending, the credit condition in the economy becomes tight.
The banks start feeling difficult to cope with demand for credit. In such a situation, the rate of interest is raised by the banks to control the liquidity in the economy. The cash Reserve Ratio, Statutory Liquidity Ratio are raised and a tight money policy is in effect to control the boom from turning into inflation. The effect of Monetary Policy in inflation is much greater than in depression.
Now, we will try to understand how fiscal policy controls the business cycle in the next chapter of the blog.
In the atmosphere of depression, there is a need to encourage investment and so the loans are made cheaper to stimulate investment and increase the demand by increasing income and employment because a cheap money policy will discourage saving and promote investment.
It is said that the Monetary Policy has less scope in depression and fails to bring the economy out of depression, as the MEC is low and so the businessmen are scared to invest, even though the rate of interest is low. Rate of interest is the factor but not the only factor for investment.
Businessmen borrow when the business is expanding not when it is declining. However, we cannot say it is totally useless because it can stimulate demand for durable goods and private investment. But open market operation can increase the liquidity overall in the economy. Even if credit policy cannot turn the business cycle, it can create the necessary atmosphere for the other policies to be successful.
Monetary Policy in Inflation:
Inflation is faced at the prosperity phase when MEC is high, rising prices, output and employment. The condition in the economy is very optimistic and business activities are rapidly increasing. Though his condition cannot go on continuously, with the increase in consumer spending and investment spending, the credit condition in the economy becomes tight.
The banks start feeling difficult to cope with demand for credit. In such a situation, the rate of interest is raised by the banks to control the liquidity in the economy. The cash Reserve Ratio, Statutory Liquidity Ratio are raised and a tight money policy is in effect to control the boom from turning into inflation. The effect of Monetary Policy in inflation is much greater than in depression.
Now, we will try to understand how fiscal policy controls the business cycle in the next chapter of the blog.
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