Monetary And Fiscal Policies

Monetary And Fiscal Policies

The importance of monetary policy as an integral part of general economic policy has considerably increased in recent years. The term ‘monetary policy’ may be interpreted both in a broad sense and a narrow sense. In the broad sense, the term “monetary policy’ refers to the monetary system along with the measures to manage the money and credit supply in the economy including steps taken from time to time to regulate and control the interest rates. It may also include non-monetary measures taken by the government which have the effects of influencing the monetary measures may be wages and price.controls., budgetary operations, etc. which indirectly influence the monetary situation in the economy. Monetary policy, in the narrow sense, is interpreted to cover the steps taken by the government and the banking authorities to manage the money and credit supplies including steps taken from time to time to control and regulate the interest rates. Non-monetary measures having a bearing on the monetary situation may not find a direct place in a monetary policy interpreted in the strict narrow sense. 

The objectives are generally chosen by the monetary authority based on priorities dictated by the economic situation in the country. That is why different countries may adopt different objectives of monetary policy. This, however, does not imply that an objective or objective chosen once by the monetary authority become a permanent part of the monetary policy of the country in question. The objectives of monetary policy are changed from the economic situation of the country. In choosing the objective or objectives of monetary policy, the Central Bank has to act with due care and circumspection. Broadly speaking, there can be five major objectives of monetary policy :

  1. Neutrality of Money
  2. Price Stabilization
  3. Exchange Stabilization
  4. Full Employment, and
  5. Economic Growth.

The Neutrality Of Money:-

According to Economists like Wicksteed, Hayek, and Robertson money is only a technical device. It plays a passive role in the functioning of the national economy. Its only purpose is to facilitate the smooth functioning of the national economy. It has no other role to play in the economy. For example, the supply of money is not expected to influence fundamental economic entities, such as prices, output, income, employment, etc. Money, according to these economists, should remain strictly neutral and should not cause any changes in prices or other economic entities, Nor it is expected to encourage or discourage consumption and production in the economy. Likewise, it is not expected to influence the existing distribution pattern in society. In other words, money has only a strictly neutral role to play in the functioning of the national economy.

Price Stabilization:

Some economists have suggested price stabilization as a viable object monetary policy for an economy suffering from violent price fluctuations. Prof. Gustav vascasa Lord Keynes (during the early period of his career ) suggested price stabilisation as a comand objective of monetary policy. Price stabilization as an objective of monetary policy acquired adduct significance during the ‘twenties and thirties of the present century. Several countries aus this period tried to implement this policy of price stabilization as an experimental measure. But with the lapse of time, this objective of monetary policy has now been replaced by the more generally accepted Keynesian objective of full employment in the economy. The term “Price Stabilization’ is not to be interpreted here in its literal sense. Price stabilization here does not imply that all the individual prices in the economy will be stabilized at a particular level. Individual prices can change off and on even under a policy of price stabilization. But what price stabilization means is that the average price level as reflected by the wholesale price index number or the consumer price index number should be stabilized at a particular level in the economy.

Exchange Stabilization:

According to some economists, the main objective of monetary policy should be to maintain stability in the external equilibrium of the country. In other words, the monetary policy should aim at maintaining the stability of exchange rates. The monetary authority should try to eliminate those forces which tend to introduce instability in exchanges. It should be the constant endeavour of the monetary authority to adjust minor changes in the exchange rates. The reason is that major fluctuations in the exchange rates create some difficulties for the government of that country.

  1. Firstly, heavy fluctuations in the exchange rates encourage speculative activities in the market. This gives a rude shock to the credit of the country abroad.
  2. Secondly, heavy fluctuations in the exchange rates lead to a loss of confidence on the part of the foreign capitalists. With confidence shaken, foreign capitalists may start repatriating their capital to their home country. Widely fluctuating exchange rates may result in a flight of offering capital which can never be in the interests of the country in question.
  3. Thirdly, fluctuations in exchange rates also produce repercussions on the internal price level of the · country concerned.

Full Employment:

The objectives of monetary policy should be to ensure the maximum utilization of productive resources in the country. The monetary policy should be used in a manner to promote the full employment of resources in the country. No doubt, monetary policy under · other desirable objectives, such as price stability, exchange stability and even neutral money, but these objectives however desirable, cannot promote full employment of productive resources in the economy. 

Economic Growth:

In recent years, some economists have suggested economic growth as the main objective of monetary policy in a country. Their view is that monetary policy should be an instrument for accelerating the process of economic growth in a country. It is on account of this view of the economists that there is now a perceptible shift in the objectives of monetary policy in the various countries of the world.

Till recently, full employment was looked upon as the ideal objective of monetary policy. The emphasis has since then shifted from full employment to economic growth. The earlier economists used to look upon monetary policy as a short-run policy intended primarily to secure price stabilisation or full employment in the economy. They never considered monetary policy as a long-run policy intended to achieve an increased rate of economic growth in the country. But the thinking among the economists has changed now. They no longer consider full employment as the only desirable objective of monetary policy.

The emphasis now is on economic growth as the principal objective of monetary policy. There are three reasons for this shift in emphasis. Firstly full employment in an economy is not possible without stepping up the rate of economic growth. Secondly, an increasing rate of economic growth is also necessitated by the universal desire among people of enjoying over-rising living standards both in the developing as well as the developed countries of the world. Thirdly, in the present highly competitive world, an ever-increasing rate of economic growth is the condition essential for the survival of developing countries.

Check out these notes on the Role Of Monetary Policy In A Developing Economy.

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