central bank

(noun)

The principal monetary authority of a country or monetary union; it normally regulates the supply of money, issues currency and controls interest rates.

Related Terms

Examples of central bank in the following topics:

  • The Money Multiplier in Theory

    • The money multiplier measures the maximum amount of commercial bank money that can be created by a given unit of central bank money.
    • In order to understand the money multiplier, it's important to understand the difference between commercial bank money and central bank money.
    • Central bank money, on the other hand, is the money created by the central bank and used within the banking system.
    • It consists of bank reserves held in accounts with the central bank, as well as physical currency held in bank vaults.
    • The money multiplier measures the maximum amount of commercial bank money that can be created by a given unit of central bank money.

  • Managed Float

    • Almost all currencies are managed since central banks or governments intervene to influence the value of their currencies.
    • Generally, the central bank will set a range which its currency's value may freely float between.
    • For example, if a currency is valued above its range, the central bank will sell some of its currency it has in reserve.
    • By putting more of its currency in circulation, the central bank will decrease the currency's value.
    • The rupee is allowed to fluctuate with the market within a set range before the central bank will intervene.

  • The Structure and Function of Other Banks

    • Central banks in most developed nations are institutionally designed to be independent from political interference.
    • The European Central Bank (ECB) is the central bank for the euro and administers the monetary policy of the Eurozone, which consists of 17 EU member states and is one of the largest currency areas in the world.
    • The Bank of England is the central bank of the United Kingdom and the model on which most modern central banks have been based.
    • Established in 1694, it is the second oldest central bank in the world .
    • The structure and function of the Bank of England served as a model for the central banks formed later.

  • Using Monetary Policy to Target Inflation

    • Inflation targeting occurs when a central bank attempts to steer inflation towards a set number using monetary tools.
    • Inflation targeting is an economic policy in which a central bank estimates and makes public a projected, or "target", inflation rate and then attempts to steer actual inflation towards the target through the use of interest rate changes and other monetary tools .
    • Because interest rates and the inflation rate tend to be inversely related, the likely moves of the central bank to raise or lower interest rates become more transparent under the policy of inflation targeting.
    • Under the policy, investors know what the central bank considers the target inflation rate to be and therefore may more easily factor in likely interest rate changes in their investment choices.
    • The United States Federal Reserve, the country's central bank, practices a version of inflation targeting.

  • The Effect of Expansionary Monetary Policy

    • By increasing the amount of money in the economy, the central bank encourages private consumption.
    • A central bank can enact an expansionary monetary policy several ways.
    • Commonly, the central bank will purchase government bonds, which puts downward pressure on interest rates.
    • Because the banks and institutions that sold the central bank the debt have more cash, it is easier for them to make loans to its customers.
    • The Bank of England (the central bank in England) undertook expansionary monetary policy and lowered interest rates, promoting investment.

  • The Reserve Ratio

    • Banks assume responsibility for consumer deposits and make money by loaning out deposited finds.
    • Therefore, banks with relatively higher deposits are able to supply a larger amount of loanable funds.
    • In order to reduce the risk of a panic or "run on bank" from the perception that a bank may not have adequate liquidity to meet depositor access to cash deposits, central banks have adopted policies to ensure that banks use prudent judgement when assessing the amount of deposits to loan.
    • The reserve ratio is a central bank regulatory tool employed by most, but not all, of the world's central banks.
    • Required reserves are normally in the form of cash stored physically in a bank vault (vault cash) or deposits made with a central bank.

  • Executing Restrictive Monetary Policy

    • The central bank may initiate a contractionary or restrictive monetary policy to slow growth.
    • The money supply is a monetary policy mechanism available to a central bank as part of its initiatives to promote economic growth and maintain full employment.
    • Central banks use monetary policy to stabilize the economy; during periods of economic slowing central banks initiate expansionary policy, whereby the bank increases the money supply in order to lower prevailing interest rates.
    • During periods where the economy is showing signs of growing too quickly or operating above full employment, the central bank may initiate a contractionary or restrictive monetary policy by reducing the money supply and allowing interest rates to increase and economic growth to slow.
    • Central banks can decrease the money supply through open market operations and changes in the reserve requirement.

  • Executing Expansionary Monetary Policy

    • Central banks initiate expansionary policy during periods of economic slowing, increasing the money supply and reducing interest rates.
    • The money supply is a monetary policy mechanism available to a central bank as part of its mandate to promote economic growth and maintain full employment.
    • Central banks use monetary policy to stabilize the economy; during periods of economic slowing central banks initiate expansionary policy, whereby the bank increases the money supply in order to lower prevailing interest rates.
    • Central banks can increase the money supply through open market operations and changes in the reserve requirement.
    • The bank can lend these unneeded reserves to another bank in the federal funds market.

  • The Fractional Reserve System

    • Banks operate by taking in deposits and making loans to lenders.
    • This is called the fractional-reserve banking system: banks only hold a fraction of total deposits as cash on hand.
    • These assets are typically held in the form of physical cash stored in a bank vault and in reserves deposited with the central bank.
    • Because banks are only required to keep a fraction of their deposits in reserve and may loan out the rest, banks are able to create money.
    • Thus, there are two ways that a central bank can use this process to increase or decrease the money supply.

  • The Money Multiplier in Reality

    • First, some banks may choose to hold excess reserves.
    • Recall that when cash is stored in a bank vault it is included in the bank's supply of reserves.
    • When it is withdrawn from the bank and held by consumers, however, it no longer serves as reserves and banks cannot use it to issue loans.
    • The monetary base is the sum of currency and reserves held in accounts at the central bank.
    • After the financial crisis the monetary base increased dramatically: the result of banks starting to hold excess reserves as well as the central bank increasing the supply of reserves.