ECONOMICS (CBSE/UGC NET)

Detailed explanation-1: -What Are the Effects of Contractionary Policy? A contractionary policy often results in the tightening of credit through increased interest rates, increased unemployment, reduced business investment, and reduced consumer spending.

Detailed explanation-2: -Central banks engage in tight monetary policy when an economy is accelerating too quickly or inflation-overall prices-is rising too fast. Hiking the federal funds rate–the rate at which banks lend to each other–increases borrowing rates and slows lending.

Detailed explanation-3: -What happens to the fed funds rate if the Fed follows a contractionary (tight money) policy? The federal funds rate increases.

Detailed explanation-4: -Contractionary. A contractionary policy increases interest rates and limits the outstanding money supply to slow growth and decrease inflation, where the prices of goods and services in an economy rise and reduce the purchasing power of money.

Detailed explanation-5: -Why does contractionary monetary policy cause interest rates to rise? Contractionary policy reduces the amount of loanable funds in the economy. As with all goods, greater scarcity leads a greater price, so the interest rate, or the price of borrowing money, rises.