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CISI – Financial Products, Markets & Services

Topic – The economic environment

(2.1.2, 2.1.3) Central Banks/Monetary Policy Committee
Monetary or Fiscal Policy?

Increase the personal tax


Decrease the base rate of interest

Issue more notes and coins
Increase the base rate of interest

Increase the rate of VAT

Re-introduce the 50p rate of tax

Increase spending on the NHS

Fiscal Decrease spending on education

Policy Inject money into the economy –
quantitative easing
Monetary and Fiscal Policy

Adjusting interest rates (to control inflation)

Monetary and the money supply to manage fluctuations
in economic activity. Monetary policy is often
Policy the responsibility of a country’s Central Bank.

Governments attempt to manage fluctuations

Fiscal in economic activity through taxation and
expenditure. These measures are known as
Policy stabilisation policies categorised as fiscal
Activities: Activities: Activities:
Provides credit cards for Advise businesses wanting to Provides a depositors’ protection
customers borrow money in bond scheme
markets (debt)
Provides personal loans for Issues notes and coins
customers Advise businesses wanting to
issue shares (equity) Acts as a banker to the banking
Currency exchange for system i.e. Commercial banks
people travelling Advise businesses on strategy Acts as a banker to the
and growth (Mergers and government
Mortgage lending for people acquisitions) Regulates the domestic banking
to buy homes system
Advise businesses on strategy
and growth (Mergers and Holds the nation’s gold and
Provides savings and current
acquisitions) money supply
accounts for individuals

Arranges overdraft facilities Buy and sell financial assets to Influences the value of a nation’s
for customer accounts make a profit currency

Sets the official short-term rate of

interest (base or bank rate)

Manages the national debt

Controls the money supply
Central Banks – The Bank of England (BoE)

• UK Central Bank – Threadneedle Street, London

• Founded in 1694

• Since 1694 – banker to the government

• Since the late 18th Century – banker to the banking system

• Manages the UK foreign exchange and gold reserves

• It does NOT :
• manage the National Debt (This is the Debt Management Office in the UK)
• provide a depositors protection scheme (This is the Financial Service
Compensation Scheme in the UK)
Central Banks – The Bank of England
Strategic Priorities

• The MPC’s main focus is to meet the

inflation target set by the Chancellor
each year.
• The MPC holds monthly meetings
• Gauges all factors that influences
 Exchange rates
 Rate of economic growth
 Consumer borrowing and spending
 Wage inflation
• the MPC makes a decision about
whether to raise or lower the ‘base rate’
of interest based on the factors above.

• Established in June 2011 as a response to

the 2007/8 financial crisis.
• Monitors the stability and resilience of the
UK financial system and its powers to
tackle risks.
• It gives direction and recommendations to
the Prudential Regulation Authority (PRA)
and the Financial Conduct Authority (FCA).
Central Banks – Alternative instruments
What happens if interest rates can no longer be lowered?
Interest rates cannot fall below 0%
During the recent recession, interest rates were reduced massively by central banks in
developed countries.

When interest rates cannot be lowered any further, central banks must use alternatives.

Quantitative Easing as an alternative instrument

1. BoE injects money into the

2. BoE uses this money to
buy assets such as
government and
corporate bonds. This
increases the amount of Banks hold more
money the government reserves which might
and private sector mean they lend
institutions have. Outcomes of more to consumers
and businesses.
Private sector
institutions and Private sector institutions Buying assets means higher
government have and government may buy demand and therefore higher asset
more money to other assets so prices are prices and lower yields – brings
spend as a result. boosted and liquidity is down the cost of borrowing for
improved – people feel
better off so spend more.
businesses, and households,
encouraging further spending.
Central Banks – The Federal Reserve (FED)

7 members Chairman
appointed by the US Appointed
7 members of the
President by the US
Board of Governors President
Acts as
lender of last The Fed (1913)
banking Promotes price stability and economic growth
system Meets every 6-weeks – economic health?
This can help Should the Fed funds rate be altered?
stop Emergency session required?
2015 – Fed raises interest rates for the first time
since the 2008 Financial Crisis
Each of the 12
monitors the 5 Presidents from
activities and 12 Federal Reserve Banks the 12 Federal
provides Reserve Banks
liquidity to the
regional Regional Banks in the USA
banks they
responsible for
Central Banks – European Central Bank (ECB)
• Maintain internal price stability
• Keep Harmonised Index of Consumer Prices (HICP) ‘close to but below 2% in
the medium term’.
• Influences external value of the euro and growth in the money supply.
ECB • 2014 - The Single Supervisory Mechanism (SSM) framework was established. The
(01.01.99) ECB and national supervisory authorities supervises and monitors the financial
stability of banks in the Eurozone – a milestone towards banking union within the

ECB President and


Council comprises of the

governors of each of the
Frankfurt, eurozone’s national
Germany central banks
when the The ECB was NOT a lender of last
Euro was
created resort

UNTIL: The Eurozone Crisis (2009 - )

Several eurozone countries had to be
bailed out (Greece in particular)