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Kalu Aja

Kalu Aja

Sep 23, 2022
8 tweets

The monetary policy of any economy is like a lady in a bathtub The bath is the economy. The water flowing from the taps is cash. The plug is the Central Bank. How does this all work together ?

To take a bath, the citizen steps into the economy (bathtub), and the Federal and State government then appropriate funds that flow like water into the economy. Too little water, no bath (recession) Just enough water, bath. Too much water, overflow (inflation)
The water has to be the right level to enable that citizen take a bath If economic activity is low, the Government increases the flow of water (cash) to the bathtub (economy) However, if the government puts to much water (cash) it overflows the bath, causing inflation
This is where the Central bank steps in also If water is low, the Central bank plug the bath hole to keep more water in bathtub So it reduces cash reserve requirements and interest rates so the Government water is cheap to pump into the bathtub
However, when the Central bank sees the water is flowing to fast and will overflow the bathtub to cause inflation, it opens the taps & drains water (cash) out of the economy by raising rates, making the flow of water too expensive, so the government reduces the flow
The government wants the economy to boom, so it's always wants warm water flowing to citizens (especially during elections) however the Central Bank must be independent and drain out excess water because it' job is to fight inflation, nothing else.
Look at the US, the Federal Government and Federal Reserve pumped in water during Covid 19 stimulus bills Now the Fed is opening to plugs to pump water out to lower inflation Less water could mean no bath and a recession but remember water overflowing is inflationary
So water flowing and a little inflation is ok, the Central Banks simply don't want water flowing running out and ruining the carpets and floors. . That could lead to a depression in the value of the home Enjoy your bath
Kalu Aja

Kalu Aja

CFEI. Member AFCPE. Making money, the economy and personal finance easy to understand. Podcast.
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