the concentration of output occurs in a smaller number of products. Also, the financialmarkets are not developed with relevant expertise lacking. All these may make thedeveloping country more vulnerable to the destabilizing shocks. This necessitates theusefulness of counter cyclical monetary policy. There is another aspect. Since thefinancial system is weak, the apex bank can use monetary policy to direct credit to thesectors considered to be vital for the growth of the economy.Even when price stability is the sole objective of monetary policy, the effects of the latter on the output and employment cannot be neglected when inflation-control becomes the priority of the monetary policy, the pace of deflation will have a contractioneffects on output and employment. It is generally seen that various features of highinflation developing economies, including lack of credibility, the wage-rigidities in themarkets, etc. may create an inflation inertia and this increases the output cost of anti-inflation monetary policy. Considering all these many developing countries followmonetary policy with multiple objectives consistent to their local conditions.
The Transmission Channels of Monetary Policy :
In a modern monetary system four channels of transmission mechanism of monetary policy have been identified. The first is through the direct interest rate effects,and this affects both the cost of credit and the cash flow of debtors and creditors. Thesecond channel is through the impact of monetary policy on domestic asset prices i.e. prices of bond, stocks and real estates. The third channel is through the exchange ratesand the fourth channel is the credit availability. In an economy the nature of thefunctioning of these four channels depends on the structure and macroeconomicenvironment. One recent phenomenon is the globalization and the liberalization. Thishas changed the structure of the domestic financial system and thus the dynamics of thefunctioning of these channels has changed too.
The Interest Rate Channel :
In the traditional Keynesian model of monetary transmission, a policy induced change inthe money supply, for a given money demand, will lead to a change in the interest rate.