Term+3,+Week+2+challenge

CSSA HSC Trial paper; Q22d (5 marks) - **//Explain how the RBA's market operations influence the rate of interest and the overall economic activity in the Australian economy.//**

__Helen Said__ - The RBA's market operations has a significant influence upon the interest rates and overall economic activity in the Australian economy. The RBA develops changes to the cash rate through their role in domestic market operations, where the RBA either sells or buys government securities on the short term money market to either increase the cash rate or reduce the cash rate. The cash rate developed by the RBA acts as a guide for the major banks to follow when determining their interest rates. A reduction in the cash rate leads to reduced interest rates, but an increase in the cash rate leads to an increase in interest rates. This has a significant influence upon economic activity in the Australian economy. A reduced cash rate, reduces the servicing costs of purchases made, increasing the MPC of consumers, increasing the demand for goods and services by consumers, increasing the demand for labour to cater for the demand in goods and services, reducing unemployment and increasing GDP, causing an increase in economic growth, and an overall stimulation in economic activity. An increase in the cash rate, leads to an increase in servicing costs upon loans made, reducing the MPC of consumers, leading to a reduction in demand for goods and services, causing a reduced GDP, and therefore reduced economic activity.

__Robert Borg__ - The RBA is able to influence the rate of interest in the Australian economy by implementing monetary policy, hence, creating an impact on the overall economic activity in the Australian economy. The RBA implements monetary policy by using the cash rate as an economic medium. The cash rate is the interest rate paid on overnight loans in the short term money market and is set by forces of demand and supply. However, the RBA can increase or decrease the supply of funds in the short term money market. The RBA alters the cash rate by affecting the Exchange Settlement accounts that banks hold at the RBA. When the RBA increases the supply of loanable funds in the short term money market, the cash rate decreases while decreasing the supply of loanable funds increase the cash rate. When the cash rate increases, overall market interest rates rise while a decrease in the cash rate causes overall market interest rates to fall. As a result of changes in the overall market interest rates, consumer spending in the economy is affected as less/more money dedicated to paying interest rates means more/less money to spend. Therefore, a rise in interest rate results in a decrease in economic activity while a fall in interest rates results in an increase in economic activity.