“c04AggregateDemandPoliciesAndDomesticEconomicStability_PrintPDF” — 2022/6/7 — 8:31 — page 344 — #58
• This lower cash rate has come about automatically following the Board’s decision, without the RBA having
to use its OMO. However, given daily changes in the demand for cash, the RBA will then need to use its regular OMOs to manage the supply of cash and bank liquidity, so that the actual cash rate is close to the chosen monetary policy target. • By bringing about a lower cash rate in the STMM, competitive forces mean that the RBA can indirectly put downward pressure on longer-term interest rates, stimulating AD, economic activity, and employment.
FS
FIGURE 4.22 The RBA Board announces a cut in the cash rate target to boost AD, automatically shifting the whole policy interest rate corridor downwards in the STMM- a looser monetary policy stance
PR O
O
Price of cash (%)
RBA’s lending rate RBA’s original cash rate target (CRT)
The RBA’s policy new interest rate corridor
G
Banks deposit at highest rate
PA
RBA’s deposit rate
E
Banks borrow at lowest rate RBA’s new lower cash rate target (a looser monetary policy stance)
Day 1: old cash rate
Time Day 2: new cash rate announced by RBA
D
The RBA decides to lift the cash rate target to slow AD and economic activity:
U
N
CO RR EC
TE
If inflationary pressures started to build and economic activity was too strong, the RBA could adopt a tighter monetary policy stance and lift the cash rate (and indirectly, put upward pressure on other interest rates) to help slow AD. • Referring to figure 4.23, the first step is that the RBA Board would simply announce a rise in its cash rate target (for example, a rise from 1.00 per cent to 1.25 per cent). • Automatically, the whole policy interest rate corridor shifts vertically upwards as shown. • This again creates incentives for the banks to borrow and lend within this new corridor, at a cash rate that is close to the RBA’s target. On the one hand, few banks will want to borrow at the RBA’s expensive ceiling rate (e.g. the ceiling rate = the new cash rate target of 1.25 + 0.25 percentage points = 1.50 per cent) when they can usually borrow from other banks with surplus cash, more cheaply. On the other hand, few banks would want to deposit their surplus cash to receive the RBA’s miserable rate (RBA deposit rate = the new cash rate target of 1.25 per cent – 0.25 percentage points = 1.00 per cent) when they can lend to other banks with a cash shortage and gain a higher return. Again, borrowing and lending by banks in the STMM will take place within the policy interest rate corridor, close to the new cash rate target. • This higher cash rate has come about automatically following the Board’s decision, without the RBA using its OMO. However, given regular changes in the demand for cash, the RBA will need to conduct its daily OMO to change the supply of cash to keep the cash rate close to its chosen monetary policy target. • By directly bringing about an increase in the actual cash rate in the STMM, the RBA is able, indirectly, to put upward pressure on longer-term interest rates, slowing AD, economic activity, and inflationary pressures.
344
Key Concepts VCE Economics 2 Units 3 & 4 Eleventh Edition
