Analyse the effectiveness of monetary policy in achieving its

objectives
Monetary policy has been proven to have a profound impact on its
economic objectives over the past decades. Monetary Policy is a
form of macroeconomic policy that is enacted by the Reserve Bank
of Australia, and achieves its primary objectives through the
influence of the official cash rate by manipulating supply of money
in the short term money market. The RBAs objectives of monetary
policy, detailed in the 1959 Reserve Bank act, are the maintenance
of full employment, stability of the Australian currency, and the
promotion of economic prosperity of Australias citizens through a
sustained level of economic growth. These objectives are ultimately
influenced by monetary policy in order to act as counter-cyclical
measures, intending to stabilise the fluctuations in the business
cycle.
Monetary Policy has played an instrumental role in achieving the
goal of encouraging a sustainable level of economic growth in the
Australian economy. This is achieved through domestic, or open
market operations, which refers to the buying or selling of secondhand, commonwealth government securities in order to influence
the supply of money within the short term money market, ultimately
influencing the cash rate and bank interest rates. Through the
operation of the transmission mechanism, if an expansionary stance
is taken and interest rates decreased, there is more incentive for
consumers and businesses to borrow money from banks for
spending, and less incentive to save, leading to an overall increase
in investment and consumption. As integral components of
Aggregate demand, AD = C + I + G + X M, as these parts increase,
Aggregate demand increases, subsequently increasing economic
growth. These factors are further increased by decreases in housing
mortgages due to decrease in mortgage rates, leading to a higher
level of disposable income, consumption and thus increased AD.
The effect of expansionary policy on influencing the level of
economic growth can be seen in the succession of rapid decreases
in the official cash rate from August 2008 to Feb 2009, from 7.25%
to 3.00%, to counteract the effects of the GFC. This combined with
Fiscal policies stimulus allowed Australian to maintain positive
growth and avoid recession, while many countries were unable to do
so, allowing for a 1.4% rate of growth. Furthermore, in response to
the slow down of growth of China and the declining effect of the
mining investment boom, the cash rate was cut from 4.75% in 2011
to 2% in May 2015, which has seen the economic growth of the
economy staying above 2% rather than declining further. This has
been manifested in a 3% economic growth as of the last quarter of
2015/16, which has shown the effect of monetary policy despite
length time lags.

Monetary Policy has a less direct impact on unemployment, and

ultimately relies on the fact that demand for labour is a derived
demand, and thus changes to aggregate demand may lead to
changes in unemployment. When expansionary policy is enacted,
through the transmission mechanism outlined in the last paragraph,
consumption and investment are incentivised, and thus demand for
goods and services within the economy is increased. This leads to a
greater level of employment in response to this increase in demand,
meaning the rate of unemployment general decreases in times of
economic downturn. The continual application of expansionary
monetary policy has lead to the rising unemployment rate in 201415 beginning to decrease from 6.4% in January 2015 to 6% now as a
result of cuts from 2.5% to 2.0%. As such, the effect of monetary
policy on unemployment can be witnessed due to the fact that
demand for labour is directly derived from the demand for goods
and services.
Monetary Policy has been proven to be much more efficient in
controlling the rate of inflation within the economy. To achieve its
objective of maintaining internal price stability within Australia, the
RBA set a target range of 2-3% inflation in 1993. The average level
of inflation since the introduction of inflation targeting has been
2.7%, which has demonstrated that the RBA has overall been
effective in controlling inflation. This is achieved through
contractionary monetary policy, which utilises a selling of secondhand government securities to banks in order to increase the cash
rate. This leads to a deincentivisation of borrowing and incentivises
saving, and thus consumption and investment is likely to decrease.
As such, aggregate demand will decrease, since consumption and
investment make up large portions of AD. As seen in the diagram, a
decrease in Aggregate demand will lead to a decrease in inflation,
since there will be less competitive pressure pressuring prices to
increase, and prices will tend to increase at a lower rate to reach
equilibrium. In this way, monetary policy is a powerful tool in
controlling inflation within an economy.
In periods of high economic growth, the RBA has been shown to
utilise contractionary policy so that a sustainable level of growth
without uncontrollable levels of inflation can be obtained, so the
Australian currency does not become too unstable. This
countercyclical policy can be best observed in the increase of the
Official cash rate from 3.00% in 2009 up to a peak of 4.75% in
2010/11 in response to the high levels of economic growth during
the mining investment boom, driven by investment and exports,
which lead to high levels of inflation which had to be controlled.
Ultimately, the RBA has been most successful in utilising
contractionary policy to reduce the impact of inflation, particularly in
economic upturns.

However, monetary policy faces multiple limitations in achieving its

economic objectives. Firstly, there is a short term conflict between
reducing the level of unemployment and controlling inflation, which
is depicted in the Short and Long run Phillips curves. These curves
demonstrate that a decrease in unemployment below the NAIRU
may lead to an increase in the rate of inflation due to workers
demand higher wages. As such, the RBA must consider this
relationship when making monetary decisions, so that neither
objective is neglected. Furthermore, extensive time lags from 6- 18
months may occur in the implementation of monetary policy,
exacerbated by the weakening of monetary policy in recent years. In
this time lag, economic conditions may change, meaning the RBA
must make both current and preemptive measures to predict
changes in the economy and most efficiently address its 3 primary
objectives.
In recent years, monetary policy has been thought to have a
diminishing impact on expanding the Australian economy, likely due
to the high savings ratio post GFC, at 9%, meaning that
expansionary monetary policy would not increase consumption and
thus aggregate demand as much, and thus would not increase
economic growth and unemployment at the same levels as previous
decades. However, a consumption driven increase in economic
growth in the fourth quarter of 2015/16, 2 years after initial
expansionary monetary policy was implemented seems to indicate
that monetary policy continues to have an important role in
expanding the economy. This is likely due to the relatively low
savings ratio in 2015/16 of 7.6%, according to the RBA, which is
likely to have greater expansionary effects due to monetary policy.
Ultimately, it can be seen that monetary policy can be quite
effective in addressing its main economic objectives of maintaining
full employment, promoting sustainable economic growth, and
controlling the level of inflation within an economy.