MONETARY POLICY OF ENGLAND
Monetary Policy
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The Monetary Policies
The Bank of England is held accountable for formulating and implementing the monetary policy into practice. England has balanced exchange rates hence its money management policy includes the management of temporary interest rates to accomplish the objectives of domestic policy. Other countries, Canada and New Zealand, with developed economies apply this approach. In other nations, an optional center if interest for money management policy is the exchange rate. For instance, they may decide to have their base their exchange rate to a common global currency.
Monetary policy affects business investments in a number of ways. For instance, it affects saving and investment. Increased interest rates increase lending costs to finance expenditure. They also push up the inducement to save or reduce the rate of spending. This will in turn affect the profits of businesses. Real estate business is also affected when the there is high interest rates. This will make them delay the purchase of homes or decrease the amount of money they can spend in purchasing a house (Cecchetti & Schoenhholtz, 2011). When the interest rates reduce, businesses are able to borrow large sums of money which can be used in other investments. Consequently, the fluctuations in the number of housed being constructed or purchased will affect the price and demand of other goods like building materials. This will in turn affect those companies dealing in building materials and employment in the industry. When there is an increased cost of investment, fewer business savings projects are anticipated to produce sufficiently increased rates of proceeds to indicate their progress (Fama, 1980). However, such projects are carried out when the lending rate is reduced. It is always difficult to detect such changes since an organization involves a lot of vital factors controlling its investment.
The other way monetary policy affect business investment is through cash flow. The cash flow effect for organizations is considered to be less complex since most of them are major net borrowers. Fluctuations in interest rates can have a huge effect on the total cash flow of companies. For instance, in 1980s when the unpaid debts and interest rates were high, total business payments increased up to more than one-third of total profits. This limit on cash flow was definitely one of the reasons why there was a subsequent decrease in business investment, in the subsequent years, even though other common recurring factors were also vital. Monetary policy also affects companies through money and credit. When there are increased monetary restrictions, the lending rates for banks are also controlled. The process of rationing loans implies that local banks will not receive enough funds hence they will be forced to regulate their lending rates. Therefore, it will not be easy for companies to obtain loans. If they will have to be given loans, then it will not involve huge sums of money thus this will have an effect in their development projects. However, the lending rate is not expected to change when the monetary policy introduces tight financial conditions (King & Plosser, 1984). Tight monetary regulations will affect the economy. Companies are not willing to borrow money in for development in the declining economies reducing the total credit improvement.
Fluctuations in interest rates can have an impact on the value of properties hence affecting the possessions and spending choices of individuals. In turn, a number of businesses will also be affected since people will not be having enough money to purchase their products. There are a number o categories of properties through which this process might function. These include residences, possession investments, shares, or other monetary investments. Hypothetically, increased interest rate is anticipated to create a reduction in the value of the properties since the opportunity cost for possessing the assets will be high. On the other hand, than the value of properties is low, the spending rate is anticipated to reduce though reduced wealth and lending capacity to the point that the properties concerned could have served as a security loan (Cobham, 2003).
Monetary policy causes variations in the exchange rates which will in turn affect the prices of both local and foreign goods and services. For instance, a reduction in the interest rates increases the prices of imported goods. This will then affect the average prices of products bought because imported goods always have a direct relationship with the local spending. Business will be affected when the average price of goods is lower than normal. Their returns will decrease since they will be selling their products at a lower cost than that used in the production. Monetary policy affects wage and price-setting. If monetary policy accomplishes its main goal of stabilizing prices, inflation prospects will remain reduced (Cecchetti & Schoenhholtz, 2011). Therefore, wage and price-setting will also be low. It is important to note that fluctuations in demand can create anxiety in the labor market and intermediary goods market hence affecting wage and price-setting.
Application of Interest Rate Policy
Before the increase in the interest rates in 2010, the Bank of England gave many reasons to justify their action. For instance, the government stated that the consensus to increase the lending rate was due to the fact that the international economy was steadily advancing and the GDP is also anticipated rising in the subsequent years. The growth is still uncertain in some major nations since there was an ongoing legacy of the financial crisis leading to the continuing excess capacity. They gave an example of Asia which had undivided financial sector hence their growth has been tremendous (Fama, 1980). This effect creates pressure on the values of raw materials. The other reason provided was that the country was experiencing an increase in their trade conditions, adding to returns and advancing an upsurge in investment, in the resources sector. In this situation, the output advancement in the country in the next coming years was expected to be more than that of the previous year, despite the fact that the effects of previous expansionary policy actions will be reducing (Fama, 1980).
The rate of unemployment appeared to have peaked at a reduced level that that which had been previously anticipated. The process of companies sector de-gearing was becoming reasonable since the rate of reduction in business credit was also becoming less. This implied that additional lenders were increasingly becoming more prepared to lend some borrowers. The country’s housing dept was on the increase at a higher rate. Fresh provision of loans for housing has restrained in the last few months due to an increase in lending rates. However, at this time the market for creating houses is still distinguished by significant resilience, with the continuous increase in prices experienced at the beginning of 2010. The inflation has increased due to an increase in the temporary factors that had been holding it (Cecchetti & Schoenhholtz, 2011). The government also noted that inflation was anticipated to be consistent with a set objective in 2010.
With the danger of serious economic reduction in the country having experienced some time back, the board has been reducing the level of monetary incentive that was installed when the outbreak was experienced to be much less. Loan providers have increased their rates higher than the cash rate (King & Plosser, 1984). Lending rates to the majority of the borrowers have been at a reduced rate than the normal. Therefore, the board decided that it was necessary to increase the interest rates because the growth was most probably to be around trend and price increases close to the objective in the coming year.
References
Cecchetti, S. & Schoenhholtz, K. (2011). Money, Banking and Financial Markets (3rd Ed.) McGraw-Hill Irwin.
Cobham, D. (2003). The Making of Monetary Policy in the UK, 1975-2000. Chichester: John Wiley & Sons.
Fama, E. (1980). Banking in the Theory of Finance. Journal of Monetary Economics, 6, pg 39-57.
King, R. & Plosser, C. (1984). The Behaviour of Money, Credit and Prices in a Real Business Cycle. American Economics Review, 74, pg. 363-380.
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