Question

Central banks in some countries now target ____, instead of money growth rates:

a) interest rates
b) inflation rates
c) bond prices
d) foreign exchange rate

Answer 1

Central banks in some countries now target inflation rates, as many have adopted inflation targeting by law since the 1990s. This contrasts with the U.S. Federal Reserve, which seeks to balance both unemployment and inflation. This approach affects domestic interest rates and can influence the foreign exchange rate.

Step-by-step explanation:

Central banks in some countries now target inflation rates, instead of money growth rates. This focus on monetary policy aiming at a low rate of inflation has led many countries to rewrite their central banking laws since the 1990s to practice inflation targeting. By 2014, central banks in 28 countries including Austria, Brazil, Canada, Israel, Korea, Mexico, New Zealand, Spain, Sweden, Thailand, and the United Kingdom were legally required to keep inflation low. However, the Federal Reserve in the United States is an exception as it considers both unemployment and inflation.

Monetary policy can also affect the supply and demand of a currency, which in turn influences the domestic interest rates and can cause changes in the foreign exchange rate. For instance, when interest rates in the United States rise compared to Mexico, more investors demand U.S. dollars to buy interest-bearing assets, which leads to the appreciation of the U.S. dollar.