Monetary Policy Statements

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What is Monetary Policy Statements?

It is a statement released by the central bank containing information on the overall country economy performances based on past data results.

The monetary policy is one of the central bank policy tools to influence the economy to help maintain price stability along with the growth of the country’s economy.

During times of recession, the monetary policy may contain stimulus package to help stimulate the economy to prevent the country’s economy from collapsing.

What are the different types of Monetary Policy Statments?

Before diving into the different types of monetary policy, it is essential to know that the main objective of the central bank is to maintain stability.

A good indicator of economic stability is through inflation as the statistical data collected may provide an estimation of whether the economy is improving or not.

Central banks usually have an inflation target of 2% every year. If the inflation falls below the inflation target, the current interest rate may decrease to encourage spending and vice versa if inflation is above the inflation target.

There are a total of 4 general types of monetary policy as mentioned in the following:

Contractionary Monetary Policy:

The first type of monetary policy is known as contractionary or restrictive and the objective is to slow down the economic growth by increasing the interest rate and/or decreasing the money supply.

Through the increase of interest rate, consumers are more likely to reducing spend and save their money in a bank.

This would make discourage consumers and businesses borrow money from banks as it would be more expensive making it harder to obtain it. 

Expansionary Monetary Policy:

The second type of monetary policy is known as expansionary and the objective is to accelerate economic growth by decreasing the interest rate and/or increasing the money supply.

Through the decrease of interest rate, consumers are encouraged to spend more and allow businesses to borrow money much easier and less expensive.

Accommodative Monetary Policy:

The third type of monetary policy is known as accommodative with the objective in mind to maintain inflation within the healthy range.

If inflation exceeds the inflation target, interest rate will increase and if inflation growth per annual began to slow down, interest rate will be decreased slightly to promote economic growth through consumer spending.

Neutral Monetary Policy:

The fourth type of monetary policy is known as neutral with neither the intention to increase or decrease inflation due to economic stability.

How to trade Monetary Policy Statement?

To trade in the monetary policy statement, it is important to first analyze and understand the previous monetary policy statement of the desire country currency to determine the outlook of the economic growth.

Through the previous monetary policy statement, it is essential to understand the central bank’s outlook on the inflation rate and the country’s economic growth.

After the release of the monetary policy statement, Forex traders should compare the previous and current monetary policy statement to filter out the changes and possible new policy that has been added to help improve the country’s economy.

If the central bank has decided to decrease interest rate and increase the money supply, Forex traders should look to sell the currency pair as it is an indication of the currency weakening.

On the other hand, if the central bank has decided to increase interest rate and limiting the money supply, forex traders should look to buy the currency pair as it is an indication of the currency strengthening.

Example of trading Monetary Policy Statement

On the 12th of March 2020, 2045hrs (SGT), the European Central Bank had released a monetary policy statement in response to the Covid-19 pandemic situation that had impacted the global economy. Upon the release of the monetary policy statement, it was stated that the Governing Council had decided to introduce additional longer-term refinancing operations (LTROs) to provide immediate liquidity support to the euro area financial system.

Although the monetary policy statement did not state anything regarding reducing the interest rate and it will be kept at 0.00%. The stimulus package indicates an increase in money supply to support the Covid-19 pandemic situation which resulted in the weakening of the Euro.

As shown in EUR/USD, H1 timeframe, the EUR/USD had broken strongly below the 1.1193 support zone in response to the release of the weakening of the European pound from the monetary policy statement.

What are the three key learning point?

1. It is important to read the previous monetary policy statement to prepare for the release of the current monetary policy statement.
2. Look to sell the country currency if the monetary policy statement indicated a reduction in the interest rate and/or increase in the money supply.
3. Look to buy the country currency if the monetary policy statement indicated an increase in the interest rate and/or decrease in the money supply.