OCR & The Quantity Theory of Money


Sophia Lynch
Flashcards by Sophia Lynch, updated more than 1 year ago
Sophia Lynch
Created by Sophia Lynch about 4 years ago

Resource summary

Question Answer
What is 'Money Supply' and who sets it? It is set by policy makers in the central bank. It refers to the quantity of money available in the economy.
What are the objectives of the RBNZ? (4) 1. Implement Monetary Policy 2. Sole right over notes and cash 3. Provide banking services to registered banks 4. Registers banks and supervisors the financial system to keep it healthy
What has been the RBNZ's primary monetary policy tool since 1999? The Official Cash Rate (OCR)
What is 'Settlement Cash'? Cash held by trading banks in 'settlement cash accounts' at the RBNZ to 'settle up' their END OF DAY TRANSACTIONS. This means if one bank cannot afford to pay another bank money, they will use 'settlement cash' borrowed from RBNZ with interest of the OCR + a little bit.
What is the 'Official Cash Rate' (OCR)? An INTEREST RATE set by the RBNZ that determines the interest banks get on deposits with the RBNZ (settlement cash balance) as well as the interest banks pay to borrow overnight cash from the RBNZ.
How often is the OCR set? 8 times a year or every 6 weeks.
How much is the interest banks pay when they borrow money from the RBNZ? 0.5 basis point above the interest rate.
How much interest do banks receive from their reserves at the RBNZ? Equal to whatever the current OCR is.
If the OCR is high, then banks will... Keep more money in their settlement cash accounts kept at the RBNZ because the interest is higher hence more return. If the is to borrow from the RBNZ, this will make them less likely as the interest rate is higher.
How does an increase in deposits improve the reserve ratio and ultimately influence interest rates in the economy? 1. Increase in deposits on hand 2. Settlement Cash Account and hence Settlement cash both increase 3. Increases Reserve Ratio which leads to lower money multiplier 4. Less credit creation 5. Money supply is lower than usual 6. Hence influences interest rates in the economy and the money supply
Attract holding cash gets banks... An OCR Interest Payment or OCR-
Borrowing from the RBNZ to settle up gets banks... OCR+ (Interest Rate)
1. A Low OCR means... 2. A high OCR means.. 1. Less Settlement Cash for a bank 2. More Settlement Cash for a bank
Where does settlement cash come from? Depositors.
When the OCR goes up, what tends to happen to the reserve ratio? It also goes up.
What is the point of having a reserve ratio? For example 10% This means 10% of the banks deposits are held in reserves. If the bank falls short at the end of the day they can tap into this reserve rather than borrowing from the RBNZ when the OCR is high.
Using arrows, explain what happens when OCR increases. OCR ^ > rr ^ > slows credit creation > i ^ *i = high interest rate which v C & v I & ^ exchange rate > v NX hence AD v hence slows the economy...
If the RBNZ expect inflation to increase in the future what will they do to the OCR? (inflation getting above 3%) Increase the OCR.
What will the RBNZ do if they expect inflation to fall below 1%? Decrease the OCR.
Does the RBNZ ever have control over the banks' reserve ratio? Legally they can tell banks what ratio to have.
What four things influence the money supply? 1. The OCR 2. Open-market operations - you give money to OCR and they can buy and sell bonds (Not is NZ) 3. Reserve ratio requirements - Tell trading banks what their reserve ratio is (Not in NZ) 4. Discount rates
What is the only way we control money supply in NZ? Through the OCR.
How do high market interest rates influence banks? Encourages banks to hold less settlement cash/reserves. The bank will supply extra funds by running down their reserves. (Above would be the same for the OCR but instead they would reduce the money supply through the money multiplier)
What is the 'Optimal Reserve Ratio' (ORR)? The ratio of settlement cash to current deposits that a bank opts to maintain.
What is the Quantity Theory of Money or Quantity Equation? M . V = P . Y
What does M . V = P . Y stand for? V = VELOCITY of money M = MONEY Y = Real Output (QUANTITY) P = PRICE level
What does PY represent? The money value of national income or nominal GDP.
What does MV represent? The total spending in an economy.
If V & Y are held constant, what does that mean for M & P. An increase in M causes a proportionate increase in P. If M increases by 10% then P also increases by 10%.
Monetarists advocate control the money supply for ... Price Stability.
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