INSTITUTE OF BANKERS OF SRI LANKA
Diploma in Applied Banking and Finance (DABF)
Economics of Money and Monetary Policy - Guidance Questions
a) The questions below are provided to guide students and teachers in their
studies on the subject as per the syllabus.
b) Each question will carry 20 marks distributed as 5 marks for each subquestion.
c) It is expected that about 30-35 minutes will take to answer a question.
d) Precise answers are expected in points. Detailed essay typed long answers
are not expected.
1. The following banking information for 2013 is extracted from the Central Bank
Annual Report 2013.
Rs. bn
Currency in circulation
339
Currency held by public
264
Currency held by banks
75
Demand deposits held by public
220
Demand deposits held by banks
573
Time and savings deposits held by public at the banking system
818
Time & savings deposits held by public at banks and finance
companies
3,890
Deposits held by banks at the Central Bank
149
Required reserves on deposit liabilities of banks
148
Govt. deposits with the banking system
462
Answer the following questions.
i)
Calculate M1, M2b and M4
ii)
Calculate Reserve Money and Money Multiplier for M2b
iii) Outline the factors determining the Money Multiplier
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iv)
If the Central Bank wishes to increase the M2b by Rs. 100 bn in the shortterm, what are the major options available? Give a numerical example for
any option.
2. Monetary Policy is implemented by central banks as a demand management policy
for various objectives in respective economies. Answer the following questions.
i)
What is meant by demand management?
ii)
Outline the key objectives targeted by central banks in conducting the
monetary policy.
iii) If the Central Bank of Sri Lanka buys foreign exchange from the market,
what could be the most priority objective? How will it be achieved?
iv) What are the objective/objectives for which western countries’ central
banks used the monetary policy during the recent global financial crisis?
What are the major policy measures adopted for such objectives?
3. It is widely believed that monetary policy and fiscal policy must be closely
coordinated to achieve desirable economic objectives. Answer the following
questions.
i)
Why is such coordination necessary? Give examples.
ii)
What is the specific mechanism available in Sri Lanka in the Monetary Law
Act to facilitate such coordination?
iii) Will the inflation targeting monetary policy help this coordination? How?
iv) During the recent global financial crisis, such coordination was not a major
issue in the Western countries? Why?
4. Interest rates play a major role in the economy through various channels and are
determined by the interaction of economic agents such as Government, Central
Bank, public and corporates. Answer the following questions.
i)
How do interest rates influence the real sector of the economy?
ii)
How do interest rates influence demand for money? What is the specific
channel?
iii) If credit growth increases, what will be the impact on interest rates? What
is the channel of such impact?
iv) If interest rates are falling, what will be impact on asset prices? Should the
banks be concerned about it? Why?
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5. The Central Bank observes that high inflationary pressure exists in the economy
and, therefore, monetary policy should be implemented. Policy interest rate is one
of the policy actions. Answer the following questions.
i)
What should be the monetary policy change necessary? What is the
necessary change in policy interest rates?
ii)
Outline the transmission effect of such policy interest rate change on
inflation. How long will it take to bring the inflation to a healthy level?
iii) What will be the specific impact of change in policy interest rates on
financial markets? Would that cause eventual risks to the economy?
iv) What could be the benefits and risks to banks if such changes have to be
continued for a considerable period of time?
6. One of the policy measures adopted during financial crisis times is the monetary
policy. Answer the following questions.
i)
What is nature of the monetary policy normally implemented for
addressing a financial crisis? Why?
ii)
What are the unconventional monetary policy measures implemented by
the central banks in the Western countries in response to the recent global
financial crisis? Why? Give examples.
iii) What are the potential risks of such unconventional monetary policies
expected in those countries?
iv) What is the importance of the macro-prudential policies to the conduct of
the monetary policy?
7. Status of money market is determined by demand for money and supply of money.
Answer the following questions.
i)
Explain how money market interest rates influence the real income and
employment of a country?
ii)
If a country’s economy is below the potential income, what is the kind of
monetary policy be implemented in the short-run? What is the necessary
change in money market interest rates?
iii) According to monetarists, monetary policy will have no real effects on the
economy in the long-run. What is the theoretical basis for this view?
iv) Why is the economic growth supported by the monetary policy is
inflationary in the short-run?
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8. The world is fast moving towards implicit money due to modern information
technology development. Answer the following questions.
i)
What is meant by implicit money?
ii)
What are the costs and benefits of such implicit money?
iii) Does all such implicit money pose challenges to central banks for
conducting monetary policy? Why?
iv) Since implicit money is not a legal tender, implicit money has no value in
the economy. Do you agree? Why?
9. Outline the impact of the following concepts on the money and financial markets.
i)
Liquidity trap
ii)
Forward guidance
iii) Liquidity risk premium
iv) Real money balances
10. Central banks regularly estimate the money supply under various definitions to
guide the monetary policy in respective countries. Answer the following questions
relating to money supply:
i)
What is the difference between narrow money and broad money? Which
type of money is more liquid?
ii) Why do central banks tend to apply broad money supply estimates for the
conduct of monetary policy?
iii) What is the rationale behind money-supply-targeting monetary policy?
iv) If the velocity of money rises rapidly, will the money-supply-targeting be
effective? Why?
11. The conduct of the National Monetary Policy in Sri Lanka falls under several
provisions of the Monetary Law Act. Answer the following questions relating to
such provisions:
i)
Who is the authority responsible for the conduct of the monetary policy?
Provide a brief description about this authority.
ii) Outline the two stabilization objectives for which the monetary policy
should be conducted.
iii) What are the major policy instruments used in the monetary policy?
iv) Outline the key components of the monetary policy implementation
mechanism.
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12. The Central Bank of Sri Lanka primarily uses policy interest rates for the conduct of
the monetary policy. Answer the following questions:
i)
Describe what are the policy interest rates at present?
ii)
What is the immediate target/objective of the policy interest rates?
iii) What is the specific policy action taken by the Central Bank on daily basis
to achieve the target?
iv) During the periods of excess supply in the domestic foreign exchange
market, achieving the above objective is challenging. Do you agree? Why?
13. In the conduct of monetary policy, the Central Bank of Sri Lanka undertakes open
market operations and imposes reserve requirements in terms of the provisions of
the Monetary Law Act, Answer the following questions:
i)
Outline the nature of open market operations conducted at present?
ii)
What is the specific objective of such open market operations?
iii) Outline the reserve requirement in effect at present?
iv) What is the specific objective or objectives of the reserve requirement?
14. Discuss the specific importance of the following actions authorized to the Central
Bank of Sri Lanka under the Monetary Law Act to the monetary policy:
i)
Issue, place, buy and sell freely negotiable securities of the Central Bank
itself.
ii) Fix the maximum rates of interest charged on loans or other credit
operations by licensed banks.
iii) Fix the minimum percentage of loans to be extended to any identified sector
of the economy by licensed banks
iv) Buy or sell foreign exchange on transactions with commercial banks
15. It is argued that risks to financial stability should be dealt with by the
macroprudential policy and the monetary policy should be the last line of defense
against risks to financial stability. Answer the following questions.
i) What is the primary objective of the monetary policy?
ii) Why should the monetary policy be treated as the last line of defense against
risks to financial stability?
iii) What is the role of macroprudential policy for securing financial stability?
State any one instrument of this policy.
iv) Outline the macroprudential policy tool recently implemented by the Bank of
England in June 2014 and underlying specific objective.
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