Rates and money, loose or tight:the central bank's way to steer things right.
The actions a central bank takes to influence the cost and availability of money, chiefly by setting a policy interest rate and by buying or selling assets.
Its stance is described as tightening when it raises rates or withdraws liquidity and as easing when it does the opposite.
In plain words
Monetary policy is how a central bank influences the cost and supply of money in an economy. Its main tool is a policy interest rate, which feeds through to the rates that banks charge and pay; it can also buy or sell assets such as government bonds.
See it move
Decision, then Rates change
Why it matters
Interest rates are one of the main influences on exchange rates, so policy decisions and the statements that accompany them are among the most watched events on the economic calendar. Markets respond to changes in what is expected as well as to the decisions themselves.
Worked example
An example only. The figures are round and invented for the arithmetic: they are not market prices.
A central bank raises its policy rate from 2.00% to 2.25%.
- 1Change2.25 − 2.00 = 0.25 percentage points
- 2One basis point is one hundredth of a percentage point, 0.01
- 30.25 ÷ 0.01 = 25 basis points
The move is described as a rise of 25 basis points, a tightening of policy.
A common mistake
Raising a rate from 2% to 3% is a rise of one percentage point, not of 1%. Measured against the old rate it is an increase of 50%, which is why rate moves are quoted in basis points.
Check yourself
Learn more
- Academy lessonCentral bank policyWho the major central banks are, how rate decisions, quantitative easing and forward guidance work, and how policy feeds through to currencies.
- ExplainerHow central bank decisions move currenciesRates, forward guidance and balance-sheet policy reach exchange rates through one channel above all: what the market expected beforehand.
Educational information, not investment advice or a recommendation to trade.