Role of Central Bank (Europe)

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Finance – Question 5 – Regulation

The regulation of a country’s financial system usually is the responsibility of that country’s Central Bank. Examples of this would be the United States Federal Reserve, The European Central Bank and the Bank of England. The central bank manages a country’s currency, money supply and interest rates. Central Banks also oversee the commercial banking system. Unlike a commercial bank, the central bank has a monopoly on increasing the country’s monetary base and also usually prints a country’s currency which serves as a nation’s legal tender. In the case of the Euro Zone, the European Central Bank is responsible for this.

Monetary Policy

Monetary policy is the process by which a country’s central bank controls the supply of money.

The central bank implements a country’s chosen monetary policy. This involves controlling inflation by altering the value of their currency and by doing these controlling prices within a country. They achieve this by managing interest rates and, setting banking reserve ratios and acting as lender of last resort during times of banking insolvency or financial crisis. Central banks in developed countries are designed to be independent from political interference.

Regulation

As already stated the central bank is actively involved in regulation of commercial banks. They achieve this with a number of monetary instruments such as setting a reserve ratio and altering interest rates which ultimately affect a bank’s ability to lend money and a consumer’s ability to borrow money.

In order to control inflation, a central bank must control the money supply in a country. They control the supply by means of monetary policy; there are two policies that are used to control the supply of money: Contractionary Policy & Expansionary Policy

Contractionary Policy

Contractionary Policy is usually adopted when there is a high level of inflation. The central bank uses this policy to slow the rate...
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