https://www.dhakatribune.

com/business/2022/07/23/how-monetary-policy-shapes-the-economy

effectiveness of monetary policy

The effectiveness of monetary policy can be seen in the way that it influences the level of economic
activity. For example, if the central bank wants to encourage economic growth, it will lower interest
rates. This makes it cheaper for businesses to borrow money and invest, leading to increased economic
activity.

Similarly, if the central bank wants to slow down the economy, it will raise interest rates. This makes it
more expensive for businesses to borrow money, leading to reduced economic activity.

The effectiveness of monetary policy also depends on the state of the economy. For example, if the
economy is already growing quickly, lower interest rates may not have much of an impact. On the other
hand, if the economy is in a recession, lower interest rates could help to boost economic activity.

effectiveness of monetary policy

The effectiveness of monetary policy can be limited by a number of factors, including:

* The "zero lower bound" on interest rates, which means that central banks cannot cut rates below zero
(and thus may have limited scope to stimulate the economy when rates are already low)

* The "liquidity trap", where people prefer to hold cash rather than bonds even at very low interest
rates, meaning that cuts in rates may have little effect

* The "fiscal dominance" of monetary policy, where the government's spending and borrowing decisions
have a greater effect on interest rates than the central bank's actions

* The "time inconsistency" of monetary policy, where the central bank may be tempted to cut rates in
the short term even if it knows that this will lead to higher inflation in the long term

All of these factors can limit the ability of monetary policy to stimulate the economy and may lead to the
central bank having to use other tools, such as quantitative easing, to boost growth.