. Explains Interdependence of monetary and fiscal policies

 Fiscal policy and  monetary policy are the two tools used by the State to achieve

its  macroeconomic objectives. While the main objective of fiscal policy is to increase the aggregate output of the economy, the main objective of the monetary policies is to control the interest and inflation rates. The celebrated  IS/LM model is one of the models used to depict the effect of interaction on aggregate output and interest rates. The fiscal policies have an impact on the goods market and the monetary policies have an impact on the asset markets and since the two markets are connected to each other via the two macrovariables — output and interest rates, the policies interact while influencing the output or the interest rates.

 Traditionally, both the policy instruments were under the control of the national governments. Thus traditional analyses made with respect to the two policy instruments to obtain the optimum policy mix of the two to achieve macroeconomic goals as the two were perceived to aim at mutually inconsistent targets. But in recent years, owing to the transfer of control with respect to monetary policy formulation to Central Banks, formation of monetary unions

(like  European Monetary Union formed via the  Stability and Growth Pact) and attempts being made to form fiscal unions, there has been a significant structural change in the way in which fiscal-monetary policies interact.

 

There is a dilemma as to whether these two policies are complementary, or act as substitutes to each other for achieving macroeconomic goals. Policy makers are viewed to interact as strategic substitutes when one policy maker's expansionary (contractionary) policies are countered by another policy maker's contractionary (expansionary) policies. For example: if the fiscal authority raises taxes or cuts spending, then the monetary authority reacts to it by lowering the policy rates and vice versa. If they behave as strategic complements, then an expansionary (contractionary) policy of one authority is met by expansionary (contractionary) policies of other.

Objective of monetary policy in a developing country like Bangladesh

 Monetary policy aims and methods have changed over time. Both in developed

andd ev elo p in g  ec onomies ,  monetary  poli cies  seek  to  ma inta in  price  st ab il ity  by sustained stable output growth in the face of internal and external shocks that are faced from time to time.

In dev e lop e d economies wi th pr od uc ti on fa ctors  at or cl os e to full employm e nt, monetary policies are formulated typically with the output gap (difference between the actual and the longer run potential output) in view; the policy stance is eased to pr ov i d e st im u l us at ti m e s of slowd o w n when  act u a l out p u t lags th e lo n g er ru n  p o t e n t ial,  an d  th e  sta n c e  is ti g h t e n e d  to  slow  thi n gs  dow n  when  the  e c onomy  overheats with actual output running ahead of the sustainable longer run potential. Diagnosing and treating asset price bubbles symptomatic of overheating are major issues of current debate in monetary policy.

 

For deve loping ec onomi e s li ke Banglades h wit h s i gnifica n t un dere m p loym e n t/u nder exploitation of production factors, stimulating higher growth is imperative for rapid reduction and eventual elimination of endemic poverty, and is therefore an overriding priority. The

stimulus provided by monetary policies in

accommodatingt h e  gr owth  as pi ra t i ons  must  not  howe v e r  ov e r  step  to w a rd s  ma cr oeconom i c imbalance destabilizing and jeopardizing future growth; and the pursuit of monetary policies comprise the continual balancing act of supporting the highest sustainable outp ut growth wh i l e adj u sting smoot hl y to internal and ex t e r n al shock s th a t the economy encounter from time to time.

Th e  pri m a r y  object ive  of  th e  Mon e tary  Po l i cy  of  Bangl a desh  is  to  ou t l in e  t h e formulation and implementation of monetary policy of the Bangladesh Bank (BB), and to convey its assessment of the recent and the expected monetary and inflation developments to the stakeholders and the public at large

The Bang l a des h Bank Or de r of 197 2 outli n es the ma i n object ives of monetary policy in Bangladesh, which comprises—

■ To achieve the price stability

 

■ To regulate currency and reserves

 

■ To promote and maintain a high level of production, employment and real income, and economic  gr o w th , si n c e inde p e ndence BB opera t e d under a variety of pegged exchange rate systems amid capital controls

 

■ To manage the monetary and credit system

 

■ To maintain the par value of domestic currency

 

■ To promote growth and development of the country's productive resources in the best national interest

■  Altho u gh  the  lo n g  te r m  fo c u s  of  monetary  poli c y  in  Ba ng la de sh  is

ongrowt h  wit h  sta b ili t y,  th e  sho r t ‐ term  objec t i v es  ar e  de ter m ine d