Tools/Objectives of Monetary Policies

 Introduction

In this unit, we will focus our attention on the effectiveness of monetary policies in changing the level of real income. We will attempt to delineate the conditions that are favourable and those that are unfavourable for the successful operation of the respective policies. We will also resort to the findings of empirical research to see the impacts of the policies.

As we have seen, in the previous units from our study of financial institutions, the Government needs to influence the level of employment, the rate of inflation or economic growth, or the balance of payments, it will implement some kind of monetary policy. Such a policy is designed to influence both the supply of money and its price. If the volume of money circulating in the economy is increased, the level of Aggregate Monetary Demand (AMD) is likely to rise. If the price is the money, that is the rate of interest payable for its use, is reduced, the level of AMD is again likely to be stimulated.

The onus of formulating monetary policies in Nigeria rests on the Central Bank of Nigeria. In this unit, therefore, we shall specifically take a look into the techniques and instruments of monetary policies. We shall also look at the procedure for the formulation and administration of monetary policies and how to minimise lags in monetary policy formulation and implementation.

 Objectives

At the end of this unit, you should be able to:

• present an introduction of the meaning, objectives and stance of monetary policy. 
• discuss in brief the various tools and techniques of monetary policy. 
• show the administrative, procedure of formulation and monetary policy and the lags that often occur.

What Is Monetary Policy? – The concept of Monetary policy

Simply put, monetary policy is a government policy about money. It is a deliberate manipulation of cost and availability of money and credit by the government as a means of achieving the desired level prices, employ- ment output and other economic objectives.

The government of each country of the world embarks upon policies that increase or reduce the supply of money because of the knowledge that money supply and the cost of money affect every aspect of economy. By affecting the aggregate demand, money supply affects the level of prices and employment. It also affects investment levels, consumption, and the rate of economic growth. An increase or reduction in the cost of money (interest rate) affects all these variables. 

Monetary policy is defined in the Central Banks of Nigeria Brief as “the combination of measures de- signed to regulate the value, supply and cost of money in an economy, in consonance with the expected level of economic activity.” (CBN) Brief 1996/03.

One idea is central in this and other definitions given above – that monetary policy focuses on money supply as a means of achieving economic objectives. If the government thinks that economic activity is very low, it can stimulate activities again by increasing the money supply. But when the economy is becoming so much that the rate of inflation is high, it will reduce the supply of money. This will reduce aggregate demand in and the general price level. However, it can also lead to unemployment and stunted economic growth. As you will see later, there is often a conflict between the objectives of monetary policy. It is difficult to achieve all the objectives simultaneously.

Monetary policy is a major economic stabilisation weapon which involves measures designed to regulate and control the volume, cost of availability and direction of money and credit in an economy to achieve some specified macroeconomic policy objectives.

That is, it is a deliberate effort by the monetary authorities (the Central Bank) to control the money supply and credit conditions for the purpose of achieving certain broad economic objectives (Wrightsonan, 1976).

Monetary policy is administered by the Central Bank of Nigeria, in some cases with degree of political/ Government Interference. As a watchdog of the economy, the Central Bank has the duty of ensuring that

Principles of Economics

policies are set in motion to ensure that the monetary system is directed towards achieving national objec- tives. Monetary policy is the control of the supply of money and liquidity by the Central Bank through “open market” operations and changes in the “minimum lending rate” to achieve the government’s objectives of general economic policy.

The control of the money supply allows the Central Bank to choose between “a tight money” and “easy money” policy and thus in the short to medium-run to affect the fluctuation in output in the economy.

Monetary policy could, therefore, generally be defined as follows:
 (a) As an attempt to influence the economy by operating on such monetary variables as the quantity of money and the rate of interest; OR
(b) As a policy which deals with the discretionary control of money supply by the monetary authorities in order to achieve stated or desires economic goals; OR
(c) As steps taken by the banking system to accomplish, through the monetary mechanism a specific purpose believed to be in the general public interest; OR
(d) The use of devices to control the supply of money and credit in the economy. It has to do with the
controls that are used by the banking system.

Students Assessment Exercise

(i) What is monetary policy?
(ii) Who carries out monetary policy in Nigeria?
(iii) Distinguish between contraditionary and monetary policy.

Objectives of Monetary Policy

Generally, the objectives of monetary policy in various countries are the same as the economic objectives of the government.

In Nigeria, the objectives of monetary policy as explained by the government of Central Bank of Nigeria are as follows:

1.  Promotion of price stability
2. Stimulation of economic growth 
3. Creation of employment 
4.  Reduction of pressures on the external sectors, and 
5. Stabilisation of the Naira exchange rate (ogwuma 1997:3). 

These are discussed briefly in turns:

(i) Promotion of Price Stability
This involves avoiding wide fluctuation of prices which are highly upsetting to the economy. Not only do such wide prices gyrations produce windfall profits and losses, but they also introduce uncertainties  into the market that make it difficult for business to plan ahead. They therefore, reduced the total level of economic activity. This objective of avoiding inflation is desirable since rising and falling prices are both bad, bringing unnecessary losses to some and necessary undue advantages to others. Prices stability is also necessary to maintain international competitiveness.

(ii) Slowly rising prices, slowly falling prices and constant prices (though the last option is rather unrealistic in the world).

(ii) Stimulation of economic Growth i.e. – Achievement of a High, Rapid and Sustainable Eco- nomic Growth: This mean maximum sustainable high level of output, that is, the most possible output with all resources employed to the greatest possible extent, given the general society and organisational structure of the society at any given time. This highly desirable economic growth implies raising peo- ple’s standard of living. The growth of the economy is the wish of every government and monetary authorities. Therefore, when growth is achieved, it should be sustained.