How do central bank decisions affect your life?

Sometimes, when we hear economists talk about monetary policy, we can think that it is something far away that does not affect us at all. However, as we will see in this article, the decisions of central banks have a strong impact on our daily lives. This, despite the fact that it is sometimes difficult to perceive it.

Therefore, we can ask ourselves, how does the monetary policy of a country influence the lifestyle of its inhabitants? In what aspects of our personal economy can we be affected by central banks? Let’s see it!

Expansionary and restrictive policies

The expansionary or restrictive nature of monetary policy usually has a strong impact on economic activity and prices.

In general, we can say that there are two main types of monetary policies: expansionary and restrictive. In the first class, we include all measures that allow the amount of money circulating in the economy to increase. If, on the contrary, they are policies aimed at reducing this amount of money, we say that they are restrictive policies.

For expansionary policies, two of the instruments most used by central banks are the interest rate and the reserve ratio. In both cases, if you decide to lower these magnitudes, it will be cheaper to ask for a loan at the banks. If this happens, it is normal for people to tend to borrow more, and with that money buy goods and services.

Another more direct way to increase the monetary base is to print money, since central banks are the only ones authorized to do so. Normally, this is done to pay the government deficit or to buy private debt. In this case, the effect is similar, since with this new money they can increase consumption and investment.

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However, these policies must be applied with great care since, in general, a very marked increase in the quantity of money generates inflation. This means that prices in all sectors rise, the value of previous savings is destroyed and, in the long run, the economy ends up worse off than it was at the starting point.

restrictive policies

For this reason, central banks sometimes decide to reduce inflation with restrictive policies, such as raising interest rates and bank reserves, or selling debt securities and withdrawing the money they receive in exchange from circulation. When this happens, economic activity tends to contract and loans become more expensive, but in return, banks will offer us a higher return on our savings.

We therefore already have two very important areas for us that are affected by central banks: economic activity and prices. If there are expansionary policies, we will see that around us companies are doing better and more jobs are created, but over time, we may see price increases. With restrictive policies, we may see businesses close and many people lose their jobs, but in return we will see prices become more stable.

The value of the coin

The price of the national currency against the foreign ones is one of the main affected by the monetary policy.

It is also common that, if the amount of money increases strongly and people perceive that prices will continue to rise, many people try to protect their savings by converting them to another more stable currency. To do this, they will sell national currency in exchange for foreign currency, which ends up devaluing the country’s currency. For us, it will be more expensive to buy imported products or travel abroad.

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By contrast, in an economy with a restrictive monetary policy, the amount of money in circulation and prices will be more stable, and interest rates higher. In general, this tends to attract foreign investors, or even small savers from countries with weaker currencies.

In any case, these people will sell foreign currency in exchange for national currency, which will increase the price of our country’s currency. If this happens, it will be cheaper for us to buy imported products or travel abroad than before.

market control

In some countries, the control of the central bank reaches the point of prohibiting the outflow of money to other countries, or limiting the purchase and sale of foreign currency..

In most countries, the central bank requires private banks to periodically report sensitive customer information to it. The characteristics of this personal data may vary depending on the country, but in all cases the objective is the same: that the central bank can control what happens in the financial markets.

In this way, when we go to the bank and they ask us for information about the origin of our assets, or to sign a document with personal data, the cause is usually some new decision of the central bank. Given the nature of the monetary authority, it can impose requirements for private banks to transfer them to their clients.

In some countries, they even prohibit the outflow of money abroad, or limit the sale of foreign currency. These measures usually affect us directly, especially if we want to save in another currency or send money abroad.

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The case of Argentina

After almost a century of monetary instability, Argentines have had to learn to live with inflation.

Of all the countries in South America, Argentina is one of the clearest examples of how central bank decisions influence the day-to-day life of the population.

The first thing we can observe is the dynamics of the expansive and restrictive policies that we mentioned earlier. In the first half of the 20th century, the monetary policy bias was clearly restrictive. Consequently, there was price stability, the Argentine peso was well valued in international markets, and Argentina was one of the main destinations for international investors. On the negative side, domestic consumption had a relatively low weight in growth, and there was a high dependence on international trade.

In the second half of the 20th century, although there were restrictive periods, the bias was generally expansionary. This gave rise to short periods of strong growth in the domestic market, but also generated numerous bursts of inflation. Thus, Argentines over time have had no choice but to adapt their savings habits to learn to live with inflation.

This learning has become more acute in the 21st century, which already began in a very convulsive way with the corralito of 2001, and has continued with high rates of inflation since then. Consequently, and as we can see in the following graph, the way Argentines save has changed.

Argentine diagnosis

Argentine Savings

The first thing we see, according to this recent study, is that of the Argentines who save, more than half do so by keeping dollars in cash: a fairly high figure, if we consider that savings in pesos, the country’s currency, are barely used. by 16% of those surveyed. The spread narrows if we talk about bank accounts, but we still see a wide spread in favor of the US currency.

Another aspect that draws attention is that, in general, Argentines prefer savings methods linked to foreign economies. To the detriment, naturally, of investments that depend directly on the country’s economy. In fact, as we can see, none of these national investment alternatives manages to convince even a quarter of savers.

Finally, we must also highlight that, although it is a relatively new reality, cryptocurrencies are already the second most popular saving option. In this way, in a few years they have almost doubled the popularity of the peso as a savings currency, despite the fact that this is the official currency. A fact that can give us an idea of ​​the speed at which the crypto world is growing in Argentina.

Conclusions

The decisions of central banks usually affect our personal economy, and therefore we must know how we can adapt to them.

What does all this teach us about the influence of central banks in our lives? The first thing is that their decisions affect us much more than we think, since they determine the evolution of variables such as economic growth, job creation or currency stability. All this, without forgetting closer issues. For example, the ease of requesting a loan at the bank, the profitability that we can get from our savings or the increase in the purchase bill when we go to the supermarket.

These are, therefore, measures that have a very direct impact on our daily lives, and that we can do little to change.

The good news is that, as the Argentine experience shows, human beings have an innate ability to adapt to changes in our environment. As we have mentioned, more than half of the savers in that country have found ways to get dollars to keep their savings safe, despite all the restrictions in this regard. They have even been able to find out about investments abroad, something that is now much more accessible thanks to the Internet.

The rise of cryptocurrencies also demonstrates the creativity of people to seek alternatives, when their governments force them to use currencies that are later devalued by those same authorities. In fact, the growth of these currencies seems to be, in many countries, inversely proportional to the confidence of citizens in their central banks.

Final comment

In conclusion, what central banks decide affects our way of life in various ways, forcing us to use all our skills and knowledge to adapt. For this reason, at Economipedia we encourage our readers to never stop learning and learning about this fascinating world of economics.

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