With an exchange rate target, a country imports the inflation experience
of the economy whose currency is being targeted.
Economics MCQ - Economics Section 2
Inflation targeting requires an independent and credible central bank. A
and C are features of an inflation-targeting framework.
Buying government bonds results in an increase of the bank’s reserves
and increases banks’ ability to lend, causing an increase in money growth
through the multiplier mechanism and results in an expansion in the
economy.
When a central bank sells securities, bank reserves decrease. So the
banks have to decrease their lending, thereby decreasing the money
supply.
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Monetary policy is most likely to be contractionary for:
| GDP growth rate | Inflation Target | Policy Rate | |
| A. | 3% | 2% | 6% |
| B. | 1% | 4% | 5% |
| C | 2% | 3% | 4% |
Monetary policy is contractionary when the policy rate is above the
neutral rate. Hence, when policy rate is 6% and neutral rate is 5% (3% +
2%), the policy is contractionary.
