Tight Monetary Policy - Explained
What is Tight Monetary Policy?
If you still have questions or prefer to get help directly from an agent, please submit a request.
We’ll get back to you as soon as possible.
- Marketing, Advertising, Sales & PR
- Accounting, Taxation, and Reporting
- Professionalism & Career Development
Law, Transactions, & Risk Management
Government, Legal System, Administrative Law, & Constitutional Law Legal Disputes - Civil & Criminal Law Agency Law HR, Employment, Labor, & Discrimination Business Entities, Corporate Governance & Ownership Business Transactions, Antitrust, & Securities Law Real Estate, Personal, & Intellectual Property Commercial Law: Contract, Payments, Security Interests, & Bankruptcy Consumer Protection Insurance & Risk Management Immigration Law Environmental Protection Law Inheritance, Estates, and Trusts
- Business Management & Operations
- Economics, Finance, & Analytics
What is Tight Monetary Policy?
Tight monetary policy, also known as contractionary policy, refers to a policy that a countrys central bank like the Federal Reserve regulates for controlling the excessive economic growth. These policies focus on decreasing the spending capacity, or controlling inflation that is accelerating at an abnormal rate. The central bank follows the money tightening approach by increasing short-term rates of interest to the discounted rates, which is also called the federal funds rate. When interest rates are increased, people tend to borrow less. Besides increasing interest rates, the central bank can also engage in open market operations, and sell assets in the market. Tight monetary policy and a tight fiscal policy, in spite of being different from one another, can be brought in sync by government authorities. This involves increasing tax rates or reducing government expenditure.
How does Tight Monetary Policy Work?
Central banks throughout the world use monetary policy for regulating and managing various variables functioning within the economy. These banks consider using the federal funds rate in order to adjust market factors. When central banks increase the federal funds rate, it results in tightening of the monetary policy. In case, the federal funds rates are reduced, it will result in loosening of the policy. International economies use the federal funds rate as premises for the monetary policy. The rate at which federal banks can offer loans to each other is referred to as the federal funds rate. It is also called the discount rate. When federal rates are increased, it results in increasing the interest rates of borrowing too. Ultimately, the higher interest payments reduce the borrowing capacity of people. Besides personal loans, other types of borrowings such as interest rates on credit cards, mortgages, etc. also become expensive. Also, when rates of borrowing are hiked during the tight monetary policy, people tend to save more with rising interest rates on savings. When the focus is on tightening the monetary policy, it calls for selling assets in the open market for having some additional amount of capital. This leads to extracting capital from the open markets as the Fed uses the funds derived from sale with a promise of reimbursing the principal amount as well as the interest thereon. Also, a decrease in the supply of money can also control inflation. The Fed uses the tight monetary policy approach when the economy is growing at a rapid pace. In contrast to tight monetary policy, easing monetary policy takes place when the central bank reduces interest rates for infusing more growth in the economy. With the reduction in interest rates, consumers tend to take more loans, which ultimately increases the money supply in the economy. There are several countries that have reduced their federal funds rates to nil. Also, there are some that have these rates in negatives. These zero and negative numbers help the economy in securing easy borrowings. When the rates are extremely negative, borrowers also get interest rates which can lead to the creation of more credit demand in the economy.
- Legal Tender
- Gresham's Law
- Functions of Money
- Gold Exchange Standard
- Bretton Woods System
- Fiat Money
- Monetary Base
- How Do Banks Create Money?
- Bank Balance Sheet
- Velocity of Money
- Multiplier Effect
- McCallum Rule
- Neutrality of Money
- Real Bills Theory
- Banking System?
- Central Bank
- Federal Reserve System
- Federal Open Market Committee (FOMC)
- Fed Balance Sheet
- Term Auction Facility
- Taylor Rule
- How is the Federal Reserve Bank Organized?
- What is Bank Regulation?
- CAMELS Rating
- Bank Supervision
- Bank Runs
- What is Deposit Insurance?
- Federal Deposit Insurance Corporation
- Lender of Last Resort
- Central Banks Carry Out Monetary Policy
- Bank Reserve
- Discount Rate
- Federal Funds Rate
- Monetary Policy
- Contractionary and Expansionary Monetary Policy
- Easy Monetary Policy
- Accommodative Monetary Policy
- Dove & Hawk (Monetary Policy) - Explained
- Tight Monetary Policy - Explained
- Stabilization Policy
- Pushing on a String
- The Effect of Monetary Policy on Interest Rates
- Federal Funds Rate
- Gibson Paradox
- Vasicek Interest Rate Model
- Equation of Exchange (Economics)
- The Effect of Monetary Policy on Aggregate Demand
- Reserve Currency
- What are Excess Reserves?
- Unpredictable Movements of Velocity
- Central Banks - Unemployment and Inflation
- Fisher Effect
- Asset Bubbles and Leverage Cycles
- Quantity Theory of Money
- European Capital Market Institute