{"id":1260,"date":"2019-09-12T13:33:00","date_gmt":"2019-09-12T13:33:00","guid":{"rendered":"https:\/\/analystprep.com\/cfa-level-1-exam\/?p=1260"},"modified":"2025-12-15T15:19:48","modified_gmt":"2025-12-15T15:19:48","slug":"tools-used-to-implement-monetary-policy","status":"publish","type":"post","link":"https:\/\/analystprep.com\/cfa-level-1-exam\/economics\/tools-used-to-implement-monetary-policy\/","title":{"rendered":"Tools Used to Implement Monetary Policy"},"content":{"rendered":"\n<script type=\"application\/ld+json\">\n{\n  \"@context\": \"https:\/\/schema.org\",\n  \"@type\": \"VideoObject\",\n  \"name\": \"Monetary and Fiscal Policy (2022 Level I CFA\u00ae Exam \u2013 Reading 12)\",\n  \"description\": \"This video lesson covers monetary and fiscal policy for CFA Level I Economics. It explains how central banks and governments use interest rates, spending, and taxation to influence economic growth. Topics include the money creation process, Fisher effect, monetary transmission mechanisms, inflation dynamics, and the interaction between fiscal and monetary tools.\",\n  \"uploadDate\": \"2018-11-12T00:00:00+00:00\",\n  \"thumbnailUrl\": \"https:\/\/img.youtube.com\/vi\/KKHi1HKTpD4\/maxresdefault.jpg\",\n  \"contentUrl\": \"https:\/\/www.youtube.com\/watch?v=KKHi1HKTpD4\",\n  \"embedUrl\": \"https:\/\/www.youtube.com\/embed\/KKHi1HKTpD4\",\n  \"duration\": \"PT29M18S\"\n}\n<\/script>\n<script type=\"application\/ld+json\">\n{\n  \"@context\": \"https:\/\/schema.org\",\n  \"@type\": \"QAPage\",\n  \"mainEntity\": {\n    \"@type\": \"Question\",\n    \"name\": \"Which of the following is an instrument used to implement monetary policy?\",\n    \"text\": \"Which of the following is an instrument used to implement monetary policy?\\n\\nA. Open market operations\\n\\nB. Lender of last resort\\n\\nC. Regulator of currency\",\n    \"answerCount\": 1,\n    \"acceptedAnswer\": {\n      \"@type\": \"Answer\",\n      \"text\": \"The correct answer is A. Open market operations are a key monetary policy instrument used by central banks to buy or sell securities in order to influence money supply and stabilize prices. Options B and C describe roles of a central bank, not monetary policy instruments.\"\n    }\n  }\n}\n<\/script>\n\n\n\n<iframe loading=\"lazy\" width=\"560\" height=\"315\" src=\"https:\/\/www.youtube.com\/embed\/KKHi1HKTpD4?si=cLDL-5jVNm8fRtMe\" title=\"YouTube video player\" frameborder=\"0\" allow=\"accelerometer; autoplay; clipboard-write; encrypted-media; gyroscope; picture-in-picture; web-share\" referrerpolicy=\"strict-origin-when-cross-origin\" allowfullscreen><\/iframe>\n\n\n<p>\u00a0<\/p>\n<p>Central banks implement the monetary policy using a number of instruments. These affect the aggregate demand through the supply of money, cost of money, and credit availability. The three main tools central banks use to implement monetary policies are discussed below.<\/p>\n<h2><strong>Bank Rate Variation Policies<\/strong><\/h2>\n<p>Interest rate is the tool central banks mostly use to express their policy intentions to commercial banks, the entire financial system, and the economy in general. Normally, central banks only transact with commercial banks and other financial institutions. Therefore, when an interest rate is announced by a central bank, the announcement informs the public of the rate at which it is willing to lend to commercial banks. In the US, unexpected changes in the Fed funds rate are major market-moving events.<\/p>\n<p>When the central bank wishes to reduce the amount of money in circulation within an economy, it could increase its interest rate (also known as policy rate or bank rate). When the interest rate is increased, commercial banks would have to reduce their lending rate because if they were to run short of funds, they would have to borrow from the central bank at the interest rate set by the central bank. Similarly, the central bank would reduce its interest rate if it wished to increase the money circulation within an economy.<\/p>\n<h2><strong>Open Market Operations<\/strong><\/h2>\n<p>Open market operations refer to cases where a central bank buys and sells securities in the money market. When there is a rise in price, the central bank sells securities. The commercial bank\u2019s reserves are decreased and, therefore, they cannot be in a position to lend more to the business community. This leads to a decline in investments, and further rise in prices is halted.<\/p>\n<p>On the other hand, when recessionary forces get going in an economy, the central bank purchases securities, increasing the commercial banks\u2019 reserves. Commercial banks then tend to lend more to businessmen and women who will, in turn, invest more.<\/p>\n<h2><strong>Reserve Requirements<\/strong><\/h2>\n<p>The law requires commercial banks to keep a certain percentage of their total deposits in the central bank as a reserve. When there is a rise in prices, the central bank raises the reserve ratios and, therefore, commercial banks are left with less money to lend to the business community.\u00a0 Consequently, the volume of output, employment, and investment are adversely affected. Eventually, prices will fall. The opposite is also true.<\/p>\n<p>Note that the higher the reserve requirement, the less the money commercial banks can create. Hence, if the central bank wants to reduce the money creation power of commercial banks, it could easily increase the commercial bank\u2019s reserve requirements.<\/p>\n<blockquote>\n<h2><strong>Question<\/strong><\/h2>\n<p>Which of the following is an instrument used to implement monetary policy?<\/p>\n<p>A. Open market operations<\/p>\n<p>B. Lender of last resort<\/p>\n<p>C. Regulator of currency<\/p>\n<p><strong>Solution<\/strong><\/p>\n<p>The correct answer is A.<\/p>\n<p>An open market operation is an instrument that the central bank uses to buy or sell securities to the public whenever there is too much rise or fall in prices.<\/p>\n<p>Options B and C are some of the roles of a central bank.<\/p>\n<\/blockquote>\n<p><em>Reading 16 LOS 16h:<\/em><\/p>\n<p><em>describe tools used to implement monetary policy.<\/em><\/p>\n<div class=\"notes_inv\"><hr \/>\n<p><a href=\"https:\/\/analystprep.com\/cfa-level-1-exam\/economics\/learning-sessions-curriculum-economics\/\"><em>Economics &#8211; Learning Sessions<\/em><\/a><\/p>\n<\/div>","protected":false},"excerpt":{"rendered":"<p>\u00a0 Central banks implement the monetary policy using a number of instruments. These affect the aggregate demand through the supply of money, cost of money, and credit availability. The three main tools central banks use to implement monetary policies are&#8230;<\/p>\n","protected":false},"author":3,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[4],"tags":[],"class_list":["post-1260","post","type-post","status-publish","format-standard","hentry","category-economics","blog-post","no-post-thumbnail","animate"],"acf":[],"yoast_head":"<!-- This site is optimized with the Yoast SEO plugin v26.9 - https:\/\/yoast.com\/product\/yoast-seo-wordpress\/ -->\n<title>Tools of Monetary Policy | CFA Level 1 - AnalystPrep<\/title>\n<meta name=\"description\" content=\"Learn about key monetary policy tools, including reserve ratios, open market operations, and interest rate adjustments, used to regulate the economy.\" \/>\n<meta name=\"robots\" content=\"index, follow, max-snippet:-1, max-image-preview:large, max-video-preview:-1\" \/>\n<link rel=\"canonical\" href=\"https:\/\/analystprep.com\/cfa-level-1-exam\/economics\/tools-used-to-implement-monetary-policy\/\" \/>\n<meta property=\"og:locale\" content=\"en_US\" \/>\n<meta property=\"og:type\" content=\"article\" \/>\n<meta property=\"og:title\" content=\"Tools of Monetary Policy | CFA Level 1 - 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