FRM Part II · FRM Exam Part II · Monetary and Fiscal Policy: Safeguarding Stability and Trust
A central bank wants to lower short-term market interest rates in an economy where commercial banks hold ample reserves and the central bank pays interest on reserves. Which conventional tool is the primary means of steering the overnight rate in this setting?
The interest rate paid on reserve balances is the primary tool, because when reserves are ample, banks will not lend overnight below what the central bank pays them. This administered rate anchors the overnight market rate, unlike reserve requirements or asset purchases.
- AChanging the interest rate paid on reserve balancesCorrect
- BRaising statutory reserve requirement ratios sharply
- CImposing quantitative lending ceilings on banks
- DConducting large-scale purchases of long-dated corporate bonds
Explanation
With abundant reserves, banks will not lend reserves below the rate the central bank pays on them, so the administered rate on reserves sets a floor for overnight rates. Reserve requirements and lending ceilings are not the main steering tools, and corporate bond purchases are unconventional balance sheet policy.
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