Monetary Policy

A situation where interest rates are close to zero and cannot be reduced further, making monetary policy ineffective.

Nominal rates are unadjusted for inflation, while real rates account for inflation by subtracting the inflation rate from the nominal rate.

AD/AS diagram showing a leftward shift of the AD curve to close an inflationary gap.

The control of money supply and interest rates by the central bank to influence aggregate demand and achieve economic objectives.

Limited impact when interest rates are near zero and low confidence among consumers and businesses.

A policy aimed at reducing aggregate demand by raising interest rates and decreasing money supply to control inflation.

It is incremental, flexible, easily reversible, and can be implemented quickly by the central bank.

By stimulating aggregate demand through lower interest rates and increased money supply during economic downturns.

It helps smooth economic fluctuations by stimulating demand during recessions and reducing demand during booms.

Maintaining stability in the balance of payments to avoid large current account deficits or surpluses.

Low consumer and business confidence may reduce the effectiveness of lower interest rates in stimulating spending.

A policy aimed at increasing aggregate demand through lower interest rates and increased money supply to close a deflationary gap.

It encourages borrowing and investment, increases consumption, and reduces saving, boosting aggregate demand.

AD/AS diagram showing a rightward shift of the AD curve to close a deflationary gap.

Aggregate demand decreases because borrowing costs rise, consumption and investment fall.

Real interest rate = 5% - 2% = 3%.

It preserves purchasing power, reduces uncertainty, and encourages investment and economic stability.

Low and stable inflation, low unemployment, reduced business cycle fluctuations, stable economic environment, and external balance.

A central bank setting an explicit inflation rate target and adjusting policy instruments to achieve it.