How Does Monetary Policy Affect Australian Economy

Monetary policy is a macroeconomic policy implemented by the Reserve Bank of Australia (RBA )to counter fluctuations in the business cycle. The policy is used to manipulate the general interest rates of banks by influencing the overall cash rate. It also aims to influence the cost and supply of money in the economy in order to influence economic outcomes such as economic growth and inflation. The goals of monetary policy are set out in the Reserve Bank Act 1959, which are set out to best contribute to: the stability of the currency of Australia, the maintenance of full employment in Australia and the economic prosperity and welfare of the people of Australia. With these objectives it allows the Reserve Bank Board to focus on price stability,

Cash rates refers to the interest rate paid on overnight loans in the short-term money market. This system indirectly influences the term structure of interest rates of the economy. As represented in Graph 1, the current stance of monetary in May 2017 is expansionary with the cash rate lowered by 0.25% on August 3rd 2016 to a historic low of 1.5%. The decrease and unchanged cash rate is to support the Australian economy’s transition to non mining sources of growth after the end of the mining investment boom. Hence, another reason is to close the interest rate differential between Australia and other advanced countries, in order to put downward pressure on the exchange rate. The Australian Bureau Statistics (ABS) stated that the rise in cash rate lead to inflation or consumer prices in Australia to rise to 1.9 % through the year to the June quarter of 2017 from 2.1 percent in the first quarter of 2017 as the market expects a 2.2 percent rise. Therefore controlling inflation will preserve the value of money and stimulates strong and sustainable growth in the economy in the long term. Gross Domestic Product (GDP) refers to the measure of the market value of all final goods and services produced in a period (quarterly or yearly). As evident in Graph 1, the inflation has increased by 0.3% from December 2016 to

DMO are conducted directly with financial institutions, including the banks, through their exchange settlement accounts with the RBA. On a day-to day basis deviations in the cash rate around the target are determined by the supply and demand for exchange settlement funds. These are held in accounts within the RBA by banks, and are used by account holders to meet their settlement obligations to each other. In order to reduce the cash rate, the RBA would buy securities from commercial banks and in exchange deposit additional funds in their exchange settlement accounts. With the increase in the supply of settlement funds, it places a downward pressure on the overnight cash rate. Hence, the selling of securities, will withdraw money from the seller’s ES account. This decreases the supply of settlement funds, which puts upward pressure on the overnight cash rate. Overall, either with the selling or buying of securities, the RBA creates a shortage or surplus of funds in the short term money market, thus affecting the cash rate of