Relevance of exchange rates in monetary policy making Essay

Relevance of commuting judge in monetary policy making - Essay ExampleThese actions may embroil increase bank interest rates or decreasing the supply of money in the scrimping. The chief aims of such monetary policy are currency constancy or price stability, achieving full employment and economic prosperity of a nation (Zettelmeyer & Zettelmeyer, 2003). Monetary policy rests on the correlation between interest rates of an economy and the total supply of money in the economy. It is natural that governments play a primary role in economic growth and stability through with(predicate) monetary policy especially in smooth rich economies. By creating monetary policies, central banks can influence the intensity of the supply of money on credit in the economy and, therefore, minimize extreme price fluctuations and improve economic growth. This control is made easier through clear knowledge of the monetary exchange rate that a country chooses to adopt (Jung, Choi & Jung, 2003). Relevan ce of exchange rates in monetary policy making Concisely, exchange rate refers to the rate at which one countrys money can be changed for another, that is, the price of one countrys currency in another countrys currency. Exchange rate is used when converting one currency to another or for engaging in foreign exchange market. The factors that influence exchange rates include political stability, inflation and interest rates. Nevertheless, exchange rate can, by itself, influence certain factors such as inflation and policy formulation and implementation (Ireland, 2008). For small economies and certain medium ones that are still very open to capital flows and trade, any changes in the value of exchange rate have a merry influence on the real economy or inflation. For successful pursuit of macro-economic stability and achievement of sustainable growth, prudent choices of exchange rate regime and provide policies are imperative (Ireland, 2008). The exchange rate and price stability of a nations monetary value define its economy. Iceland, for example, although is a small country, has enjoyed a long degree of stability of economic prosperity with unemployment falling to near zero level. Iceland is an ideal and extreme example of a small open economy. Iceland has a population of 300,000 with a GDP of 8.5 billion USD. Like other economies, Iceland also faces trade and economic problems such as market fluctuations and terms of trade that makes it vulnerable. However, Iceland is endowed with a considerable chunk of natural resources with a highly educated labor force and well established economic policies. The paramount indicator of stern overheating of an economy is inflation and Iceland picked it (Breedon, Petursson, & Rose, 2011). However, the key to controlling inflation is good management of the exchange rate and its coordination with fiscal policy (Jung, Choi & Jung, 2003). Several available models of exchange-rate determination entail an limpid effect of mone tary policy. According to Argy, Grauwe and Polak (1990), this is explained in terms of money aggregates on the exchange rate where any increased rate of monetary growth in one country, against the surroundings of a stable claim for money tends to decline the nominal exchange rate. Most theoretical models predict that, in the end, an increase in one countrys money growth wholly reflects in the price level with the relative increment in the latter counteracted by disparagement of the exchange rate. When implementing a monetary policy care must be taken to ensure that the taxpayers do not lose much of their money (Zettelmeyer & Zettelmeyer, 2003). In the long run, countries with moderately rapid money expansion will lean towards having high nominal interest rates, as well as high inflation. However, in short