1. Foreign exchange operations such as the Forex swaps
All of these management operations can as well manage the foreign exchange market and hence the exchange rate. For instance the People's Bank of China and the Bank of Japan have on occasion bought several hundred billions of U.S. Treasuries, presumably in order to stop the decline of the U.S. dollar versus the renminbi and the yen respectively.
2. Capital requirements
All banks are required to hold a certain percentage of their assets as capital, a rate which may be determined by the commercial banking supervisor. For international banks, including the 55 member central banks of the Bank for International Settlements, the threshold is 8% as per the Basel Capital Accords of risk-adjusted assets, whereby certain assets such as government bonds are considered to have lower risk and are either partially or fully excluded from total assets for the purposes of estimating capital adequacy. Partly due to concerns about asset inflation and repurchase agreements, capital requirements may be considered more effective than reserve requirements in preventing open-ended lending; when at the threshold, a bank cannot extend another loan without acquiring further capital on its balance sheet.
3. Reserve requirements
Historically, bank reserves have formed only a small fraction of deposits, a system termed as fractional reserve banking. Banks would hold only a small percentage of their assets in the form of cash reserves as insurance against bank runs. Over time this process has been regulated and insured by central banks. Such legal reserve requirements were introduced in the 19th century as an endeavor to reduce the risk of banks overextending themselves and suffering from bank runs, as this could lead to knock-on effects on other overextended banks.
4. Exchange requirements
To manage the supply of money, some central banks may require that some or all foreign exchange receipts that are generally from exports be exchanged for the local currency. The rate that is used to purchase local currency may be market-based or arbitrarily set by the bank. This tool is generally used in economies with non-convertible currencies or partially-convertible currencies. The recipient of the local currency may be allowed to freely dispose of the funds, required to hold the funds with the central bank for some period of time, or allowed to use the funds subject to certain restrictions. In other cases, the ability to hold or use the foreign exchange may be otherwise limited.
In this method, supply of money is increased by the central bank when it purchases the foreign currency by selling the local currency. The central bank may subsequently reduce the supply of money by various means, including selling bonds or foreign exchange interventions.
5. Margin requirements and other instruments
In some economies, central banks may have other instruments that work indirectly to limit lending practices and otherwise regulate capital markets. For instance, a central bank may regulate margin lending, whereby individuals or enterprises may borrow against pledged securities. The margin requirement establishes a minimum ratio of the value of the securities to the amount borrowed.
Central banks often have requirements for the quality of assets that may be held by financial institutions; these requirements may act as a limit on the amount of risk and leverage generated by the financial system. These requirements may be direct, such as requiring certain assets to bear certain minimum credit ratings, or indirect, by the central bank lending to counterparties only when security of a certain quality is pledged as collateral.
6. Monetary base
The monetary base that as well is termed as base money, money base, high-powered money, reserve money, or, in the UK, narrow money is a term relating to but not being equivalent to the supply of money that as well is termed as money stock, which is the amount of money in the economy. The monetary base is highly liquid money that consists of coins, paper money both as bank vault cash and as currency circulating in the general public, and commercial banks' reserves with the central bank. Measures of money are typically classified as levels of M, where the monetary base is smallest and lowest M-level: M0. Base money can be described as the most acceptable form of final payment. Broader measures of the supply of money as well include money that does not count as base money, such as demand deposits that is included in M1 and other deposit accounts like the less liquid savings accounts which is included in M2 among other types of money.
The narrow supply of money is an earlier term used in the U.S to describe currency held by the non-bank public and demand deposits of banks, M1.
7. Open Market Operations
These are monetary policy instruments that affect directly the monetary base; the monetary base can be expanded or contracted using an expansionary policy or a contractionary policy, but not without risk.
The monetary base is typically managed by the institution in an economy that manages monetary policy. This is usually either the finance ministry or the central bank. These institutions print currency and release it into the economy, or withdraw it from the economy, through open market transactions that is purchasing and selling of government securities. These institutions as well typically have the ability to manage banking activities by manipulating interest rates and changing bank reserve requirements.
The monetary base is referred to as high-powered because an increase in the monetary base (M0) can result in a much larger increase in the supply of bank money, an effect often referred to as the money multiplier. An increase of 1 billion currency units in the monetary base will allow and often be correlated to an increase of several billion units of "bank money". A system of full-reserve banking would not allow for an increase of currency in the banking system on top of the monetary base.
Zainabdawa answered the question on July 27, 2018 at 14:24