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When it comes to monetary policy, most economists agree that the goals are to
stabilize the price level, achieve low unemployment, and promote economic
growth, among other things. The question they disagree about is how much, and
under what conditions, the monetary policy achieves these objectives. In this
chapter, we discuss monetary policy, beginning with the details of the money
market. In the next section, we will discuss how changes in the money market
caused by changes in the money supply can impact the economy.
The objectives of monetary policy are to keep inflation under control while at the
same time supporting the level of employment. Balancing these objectives is not
always easy. Monetary policy is usually the responsibility of a country's central
bank also called the federal reserve bank in the United States. Central banks try to
reach their goes by controlling the quantity of money that circulates in the
economy which in turn determines the rate of interest.
If we save money, we can receive interest from the bank. So, it is important to
save money. If we borrow money, we need to pay interest. So, interest can be
seen as the cost of money or the price of money. If interest rates are high
borrowing is expensive and people prefer to leave their money in the bank, so it
earns interest. On the other hand, if interest rates are low then the money is
cheap, and people will borrow more in order to buy durable goods like cars or to
invest in improving their homes or in a business. Low-interest rates can increase
output but only if there is spare capacity or unemployment in the economy. If the
economy is already operating near full capacity, then lower interest rates will just
lead to more inflation as more money is calculated to chase a constant supply.
The primary objective of monetary policy is Price stability. The price stability goal
is attained when the general price level in the domestic economy remains as low
and stable as possible in order to foster sustainable economic growth. Instability
in the general price level is undesirable as it brings about uncertainty and
instability in the economy, thereby discouraging investment and hampering
economic growth. In Zambia, the price stability objective is attained through the
achievement and maintenance of inflation within the target range of 6 to 8% over
the medium-term.
Objectives of Monetary Policy
The primary objectives of monetary policies are the management of inflation or
unemployment and maintenance of currency exchange rates.
1. Inflation
Inflation levels can be the target of monetary policies. A little inflation is thought
to be good for the economy. A contractionary policy can be used to combat high
inflation.
2. Unemployment
The level of unemployment in the economy can be impacted by monetary
policies. For instance, a monetary policy that is expansionary tends to reduce
unemployment because it encourages business activity and the growth of the
labor market.
3. Currency exchange rates
A central bank can control the exchange rates between its own currency and
other currencies by exercising its fiscal authority. For instance, the central bank
might increase the amount of money available by issuing more money. The
domestic currency then becomes more affordable in comparison to its foreign
counterparts.
4. Neutrality of Money:
The neutrality of money in the economy should be the goal of monetary
authorities. All economic turbulence stems from any change in the value of money.
Neutralists contend that monetary change skews the country's economic system
and interferes with its smooth operation.
They hold the widely accepted belief that if neutral monetary policy is
implemented, the economy won't experience cyclical fluctuations, trade cycles,
inflation, or deflation. In this system, the monetary authority maintains the stability
of the currency. Therefore, maintaining money's neutrality is the main goal of the
monetary authority. The amount of money should therefore be completely stable. It
is not anticipated to affect or deter economic consumption and production.
5. Exchange Stability:
The monetary authority's traditional goal was exchange stability. This was the
primary goal of the Gold Standard among various nations. The country's balance of
payments was automatically adjusted by movements whenever there was an
imbalance. "Expand Currency and Credit When Gold Is Coming In; Contract
Currency and Credit When Gold Is Going Out" was how it was commonly known.
With the help of this system, the imbalance in the balance of payments will be
corrected, and exchange stability will be preserved.
It should be noted that if exchange rates were unstable, gold would either flow in
or out, creating an unfavorable balance of payments. As a result, stable exchange
rates are essential for global trade. Therefore, it follows from this fact that
maintaining stability in the nation's external equilibrium is the primary goal of
monetary policy. In other words, they should work to neutralize the negative
factors that tend to cause exchange rate instability.
(i) It causes abrupt changes in price that encourage speculative activities in

the market.
(ii) Heavy fluctuations cause domestic and foreign investors to lose

confidence, which has a negative effect on capital outflow and may also
have a negative impact on capital formation and growth.
(iii) Exchange rate fluctuations have an impact on the internal price level.
6. Price Stability:
In the twenties and thirties of the twentieth century, the goal of price stability was
emphasized. In fact, economists like Crustar Cassels and John Maynard Keynes
advocated for price stabilization as monetary policy's primary goal. Most people
agree that the sincerest goal of monetary policy is price stability. Public confidence
is restored by stable prices because cyclical fluctuations are eliminated.
It encourages commercial activity and guarantees a fair distribution of wealth and
income. As a result, the community is experiencing a general wave of prosperity
and welfare. Additionally, price stability prevents economic growth because there
is no longer any incentive for the business sector to increase the production of
high-quality goods.
It promotes imports while discouraging exports. However, it is acknowledged that
"price rigidity" or "price stagnation" is not the same as price stability. A slight
price increase serves as a stimulant for economic expansion. It keeps the cost of all
virtues constant.
8. Reasonable Price Stability:

Perhaps the most important objective that can be effectively pursued through
monetary policy is price stability. When agricultural output declines in a
developing nation like India, investment activity picks up, placing undue pressure
on prices. India's food inflation is evidence of this. In this case, monetary policy
can make a significant contribution to short-run price stability.
A certain amount of inflation is unavoidable in a developing nation like India due
to numerous changes in the economy's structure. Additionally, a slight price
increase or mild inflation is preferred to provide producers and investors with the
necessary incentives. According to P. A. Samuelson, mild inflation at a rate of 3%
to 4% annually facilitates faster economic growth by lubricating trade and
industry. Additionally crucial to enhancing a nation's balance of payments is price
stability.
9. Faster Economic Growth:
Monetary policy can promote faster economic growth by making credit cheaper
and more readily available. Short-term credit is needed for working capital needs
and long-term credit is needed for fixed capital needs in both industry and
agriculture. Commercial banks and development banks can provide these two
types of credit as needed. Easy access to credit at low interest rates encourages
investment or the expansion of society's capacity for production. This, in turn,
enables the economy to expand more quickly than it did previously.
10. Exchange Rate Stability:
The exchange-rate system is also a key component of monetary policy in a "open
economy," which is one whose borders are open to financial and other types of
flows as well as the flow of goods and services. Under the current system of
floating exchange rates, the central bank must implement suitable monetary
measures to prevent significant depreciation or appreciation of the rupee in
relation to the US dollar and other foreign currencies.
11. Reducing Economic Inequality:

Economic inequality can be connected to unequal resource distribution and
unequal access to income sources. The promotion of financial inclusion, financial
literacy, and access are all aided by monetary policy. The central bank may
instruct commercial banks to grant credit to priority industries, designated
groups, and underserved and poor communities in order to reduce economic
inequality.

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When it comes to monetary policy, most economists agree that the goals are to

(i) It causes abrupt changes in price that encourage speculative activities in

(ii) Heavy fluctuations cause domestic and foreign investors to lose

8. Reasonable Price Stability:

11. Reducing Economic Inequality:

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