Monetary policy is defined actions that the government takes to influence its economy through the control of the money supply. There are a few different things that governments can do to affect the supply of money.
- Reserve requirements. Governments can force banks to keep more money in reserves instead of lending it out. This reduces the money supply.
- Buying or selling government securities. When the central bank buys bonds, it puts money into the economy. When it sells bonds, it takes money out. This affects the money supply.
- Interest rates. Central banks increase interest rates when they fear inflation and reduce them when they fear recessions. These influence the money supply by affecting how much lending and borrowing happens.
These are the main tools of monetary policy.