Restrictive Monetary Policy

A restrictive monetary policy is aimed at slowing down economic growth while combating inflation. An economy that is growing at a very fast rate can expose consumers to inflation. It can also disrupt economic stability of a country.

As such, economic policy makers adapt a restrictive monetary policy to control the employment rate when it is too high and to increase interest rates when they are low. This way, a restrictive monetary policy slows down economic growth to a more stable or balanced level.

In the US, the Federal Open Market Committee called the FOMC implements the monetary policy.  Among the members of this committee is the president of the Federal Reserve Bank, seven board members of the Federal Reserve and presidents of other four federal banks serving on a yearly basis.

This committee determines the tools to be used in controlling the economy. A restrictive monetary policy is adopted by the committee through a vote. A restrictive monetary policy can be implemented by FOMIC through a sale of the U.S treasuries. When investors in the open market buy the U.S treasuries, money gets out of circulation. This returns money to the federal government.

The federal government can also employ a restrictive monetary policy by increasing discount rate. This is the rate at which lenders or banks that work with the Federal Reserve can loan each other money. An increase in the discount rate decreases the amounts that banks are able to lend each other. When there is less money available for lending, money gets out of circulation among the public. This way, the federal government keeps the money.

The Federal Reserve can also employ a restrictive monetary policy by increasing reserve requirement. Every bank that is part of the Federal Reserve should have a certain amount of money at any given time. When reserve requirement is high, the banks are required to save more money. This implies that the banks have less amount of money to lend. When there are fewer amounts of money available for lending, the amount of money that is in circulation also decreases.

The main goal of a restrictive monetary policy is to ensure stability of the economy. As such, the central bank of any country or the Federal Reserve in the U.S deploys the tools of a restrictive monetary policy when it notices that there are high employment rates in a country and low discount rates. When the opposite occurs, the central bank uses the same tools to increase the amounts of money in circulation among the public. This helps in stabilizing the economy that has high interest rates and high unemployment rates.

Nevertheless, despite being useful, restrictive monetary policy has its limits. That is why economic policy makers in any country must meet first before making a decision to implement a restrictive economic policy.

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Sources

https://www.boundless.com/economics/textbooks/boundless-economics-textbook/monetary-policy-28/impact-of-fed-policies-119/the-effect-of-restrictive-monetary-policy-472-12568/

http://www.ehow.com/info_8048744_restrictive-monetary-policy.html

http://useconomy.about.com/od/glossary/g/Restrictive-Monetary-Policy.htm