What is Central Bank? : A central bank manages the country’s monetary policy. By
increasing or decreasing the money supply, it affects economic activity in the country.
For example, a country may have high unemployment and a low GDP if its central
bank slows down new lending through its discount window. At other times, it might
lend too much and create inflation. There are usually two types of central banks:
some countries use only one type of central bank and others use two different types
within their system (e.g., in the United States). The term “central” also refers to these
institutions as headquarters for their countries’ governments as well as where most
decisions about monetary policy are made within economics textbooks.
Some nations have more than one central bank. For example, in Spain, the Central
Bank of Spain is responsible for issuing currency and managing base money (supply
of money available to make payments) and the National Bank of Spain is responsible
for issuing long-term credit (e.g., mortgages). These two agencies also run a number
of other government organizations and departments.
The first central banks were created by the British during the 19th century. The Bank
of England performs the functions of currency issuing, interest rate setting and
allocating credit with regard to the UK government’s budget. The Bank of England is
led by the Governor of The Bank of England, who is appointed for a five-year term.
Many modern central banks have been created since World War II and are typically
modeled after the practice in the U.S., which is based on the Federal Reserve Act that
was enacted into law by U.S. Congress in 1913 (with additional extensions in
Over time, central banks have evolved and established new functions to conduct
monetary policy. However, the structure of the organization remains very similar to its
predecessor. The most common current functions of central banks are usually:
The term “central bank” is often used in a non-technical sense to refer to national or
supra-national organizations which are not called “central banks”, but do similar
things and exploit similar historical experiences. These organizations are usually
called “banking systems” or “banks” in order to distinguish them from the central
Central banking functions through a number of different channels, such as:
The role of the central banks has changed over time and continues to change. The
following table compares the functions of a central bank before and after the financial
crisis of 2007–2010.
Some economists argue that central banks have gone too far in trying to engineer
economic growth through unconventional monetary policy, that they should focus
more on their traditional roles, and that this is what helped lead to the global financial
However, others argue that the financial crisis was a failure of regulatory policies.
in 2014, the Bank for International Settlements summarized the situation as follows:
Central banks founded by individual countries (e.g., the Bank of England) are
sometimes called national central banks. Some central banks have names that are not
national e.g., The Bank of Canada, The Bank of Mexico.
Central bank action can be very narrow in focus, like in Japan or Switzerland (which
both have only one central bank), or it can be broad, like in the U.S. or Europe where
each has several centrally administered organizations responsible for various roles and
functions within their respective economies. They may also issue new currency (e.g.,
coins) issued by the central bank, usually under a name that is different from the
country’s official currency (e.g., U.S. dollar coins, Swiss franc coins). In some
countries, the central bank is also responsible for regulating and supervising
commercial banks (e.g., Japan and Switzerland).
In most countries with a central bank, the power to control inflation has been
delegated to the Bank (typically a board of governors) in exchange for assuming
responsibility for financial stability. The actions taken by central banks are usually
designed to maintain full employment, stable prices and moderate long-term interest
rates. Many of these goals are similar or identical to those of government fiscal policy.
Central banks of issue
There are a number of monetary and fiscal policies that can be used by governments
to stabilize the markets in the wake of economic shocks.
Monetary policy: In order to affect the economy, the central bank controls measures
such as open market operations and discount rates. This means deciding on how much
money to print and how much interest to charge for loans. Usually, this is decided by
a committee which includes members of the government and is generally referred to
as a Federal Reserve in the U.S. or Bank of England in the UK.
However, the central bank does not have direct control over either the production of
money or the speed at which money circulates. These are referred to as monetary
aggregates. Instead, the creation of money is usually controlled by other bodies such
as a country’s treasury department and commercial banks.
This means that the real power over a country’s money supply lies with these other
organizations rather than with its central bank. To understand how much their actions
impact the economy, it is useful to look at what they do in detail:
The choice of quantitative policy is usually made in order to affect inflation, interest
rates or both (depending on whether one’s goal is price stability or employment).
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