What is Central Bank Policy?

The goal of Central bank policy is to manage the economy’s inflation by adjusting interest rates, asset prices, and other financial instruments in order to achieve desired price stability. The success of a country’s central bank in achieving this goal depends on a combination of factors, including a government that understands the tradeoffs and sacrifices required for good monetary policy, as well as central bankers who can formulate their best judgment about what policies will work and then follow through with them.

The most important function of a central bank is to act as a lender-of-last resort, providing funds to banks and other financial institutions at the point where they need them (see What is Monetary Policy). This is typically achieved by purchasing assets, such as corporate or mortgage-backed securities, from the money market, which creates an additional source of liquidity in the system.

A second policy objective is promoting an environment that supports full employment. This involves fostering economic growth and demand for goods and services in ways that preserve the value of money over time, so that people can buy what they want without having to work too hard (see Explainer: Full Employment).

The third policy objective is maintaining financial stability. This involves ensuring that the banking and payments systems have access to sufficient liquidity in times of stress, for example by opening a discount window, which provides funds for a period of time in return for the promise to offer sound collateral at the point of sale (see What is Monetary Policy). In recent years, this has also included supplying extra liquidity in specific markets such as stock and housing markets.