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The impact of monetary policy on consumer price index (CPI): 1985-2010

par Sylvie NIBEZA
Kigali Independent University (ULK) - Master Degree 2014

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4.1.2 Reserve requirement

Commercial banks must maintain a given fraction of deposits with the Central bank. These reserves are mandatory and so, are called legal reserve requirements. These reserves are stated as percentage of the deposits. The Central bank can manipulate this reserved requirement to influence money available to commercial banks and the public.

When the Central bank wants the money supply reduced, it increases the reserves required and by reducing it, it increases money supply (Assiimwe H. M.,2009:192).The cash reserve is one of the instruments available to NBR for controlling base money(implementation of monetary policy by National Bank of Rwanda2010).

4.1.3 Discount rate

One of the functions of the Central bank is to act as a lender of last resort, that is, when commercial banks are in dire need of cash, they can borrow from the Central bank and the Central bank extends credit to the commercial banks at an interest rate called bank rate (discount rate).

This rate has a direct relationship with the interest rate that the banks charge their borrowers. When the commercial banks are charged a higher bank rate, they likewise charge a higher interest rate to the borrowers. Whenever, the Central bank wants a reduction in money supply, it raises the bank rate. This forces the commercial banks to raise the interest rate which in turn discourages borrowing (Assiimwe H. M., 2009:192).

4.1.4 Exchange Rate

The balance of payments can be in deficit or in surplus and each of these affect the monetary base, and hence the money supply in one direction or the other. By selling or buying foreign exchange, the Central bank ensures that the exchange rate is at levels that do not affect domestic money supply in undesired direction (macroeconomics course).

4.1.5 Direct Credit Control

The Central bank can direct Deposit Money Banks on the maximum percentage or amount of loans (credit ceilings) to different economic sectors or activities, interest rate caps, liquid asset ratio and issue credit guarantee to preferred loans. In this way the available savings is allocated and investment directed in particular directions (Macroeconomics course)

4.1.6 Moral Suasion

The Central bank issues licenses or operating permit to Deposit Money Banks and also regulates the operation of the banking system. It can, from this advantage, persuade banks to follow certain paths such as credit restraint or expansion, increased savings mobilization and promotion of exports through financial support, which otherwise they may not do, on the basis of their risk/return assessment (Macroeconomics course).

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