Monetary policy

The goal of monetary policy is to achieve a stable price level in a country. Monetary policy involves controlling the money supply in the economy so that the interest rate can be adjusted in the desired direction, this control is done using a benchmark rate.

The central bank is responsible for the monetary policy in Sweden and the central bank in Sweden is completely independent from the Government. The policy interest rate in Sweden is called the repo rate and the centralbank can directly affect the money supply by manipulating this interest rate.

In the money market, there is a supply of money and demand of money. The price of money on the money market is interest rate.

The central bank can control the money supply because money from the beginning always has to be created by the central bank, commercial banks borrow from the central bank. Commercial banks can borrow money from the central bank and deposit money at the central bank, if the central bank raises its interest rate it becomes more expensive for commercial banks to borrow from the central bank and this increase will affect the interest rates on the money market.

The central bank in sweden has a target to maintain price stability in the economy and this is expressed with an inflation target of 2 % plus/minus 1 %. The money supply affects the price level in a country because money is used to purchase goods and services. If the money supply increases while the supply of goods and services remains the same, this leads to higher prices in the economy.