Assessment of Monetary Policy Implementation by Central Bank in Australia

The paper evaluates the implementation of monetary policy by the central bank in Australia and its impact on the financial markets. It also discusses the role of ADI in dealing with liquidity, credit, interest and operating risk in Australia. The report analyzes the current economic environment of Australia and the effect of the monetary policies on the financial markets. The impact of the monetary policies on the security values in Australia and thereby on investment in superannuation, personal saving account of individual and managing fund investment has also been discussed.

Running head: FINANCIAL MARKET AND INSTITUTES
Financial market and institutes
Name of the Student
Name of the University
Author Note

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Executive summary:
The paper is developed to conduct an assessment on the implementation of the monetary
policy by the central bank and the responsibilities in relation to such policy. Assessment of
the monetary policy has been done by choosing Australia by addressing its current economic
environment. The discussion also incorporates identifying the impact of monetary policy on
the credit, liquidity and operational risks of the chosen country. In addition to this, the article
titled “RBA joins race to the bottom” has also been reviewed for identifying the importance
of leverage in the banking system of Australia.

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Table of Contents
1. Introduction:........................................................................................................................3
2. Role of central bank in the implementation of monetary policy and evaluation of their
regulatory responsibilities:.........................................................................................................3
2.1 Evaluating the role of RBA in monetary policy implementation:.......................................3
2.2 Evaluating the role of regulations on banks in performing their responsibilities:...............4
3. Evaluating the current economic environment of Australia, employment of monetary
policy by central bank and impact of such policies on the financial markets:...........................4
3.1 Describing the Current economic scenario of Australia:.....................................................4
3.2 Identification the association between the monetary policies and financial market:...........5
4.1 Outlining the relevance of leverage to RBI governor in the article:....................................6
4.2 Discussing the relevance of leverage to the central bank practice:......................................6
5. Evaluating the impact of monetary policies on Australian securities value, personal savings
account, superannuation and fund investment:..........................................................................7
5.1 Identifying the association between securities value and monetary policy:........................7
5.2 Evaluating the impact of monetary policy on superannuation investment and individual
savings accounts:........................................................................................................................8
6. Identifying the role of ADI in dealing with the liquidity, credit, interest and operating risk
in Australia:..............................................................................................................................10
6.1 Discussing the impact of ADI on liquidity, credit, interest and operating risk:.................10
6.2 Identifying the impact of Basel accords on liquidity and capital risk of Australia:...........11
Conclusion:..............................................................................................................................11
References list:.........................................................................................................................12

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1. Introduction:
The report is prepared to conduct a detail analysis on the function of the central bank
of Australian in implementing the monetary policy. The discussion also incorporates the
analysis of the current economic environment of Australia and the effect of the monetary
policies on the financial markets. In addition to this, the impact of the monetary policies on
the security values in Australia and thereby on investment in superannuation, personal saving
account of individual and managing fund investment has also been discussed. The later part
of the report outlines discussion on the linkage between Australian deposits Institution with
liquidity, credit and interest rate and operating risks. The importance of Basel in dealing with
liquid and capital risk is also demonstrated in the report. The two articles tilted “Today’s
reduction in the cash rate and RBA joins race to the bottom” provided forms the basis of
discussion. Relevance of the statement presented in the article to the bank practice in
Australia has been explained.
2. Role of central bank in the implementation of monetary policy and evaluation of
their regulatory responsibilities:
2.1 Evaluating the role of RBA in monetary policy implementation:
Implementation of monetary policy by the (Reserve Bank of Australia) RBA is done
by undertaking domestic money market transactions. The five aspects of cash market such as
quantity, demand, price, supply and the interest rate policy helps in explanation of the
monetary policy. The domestic market demand of bank is responsible for maintaining money
market conditions so that the cash is kept at or near the operating target. Any change in the
cash rate operating target implies change in the monetary policy and this causes the structure

FINANCIAL MARKET AND INSTITUTES
of the interest rate to shift. The cash rate is kept close to the target using the operations of
domestic market and thereby managing funds supply in the money market (Goldstein and
Yang 2017). The interest rate structure in the financial market is determined by the cash rate
as it has the power to create an influence. Therefore, the implementation of the monetary
policy is done by setting cash rate target and this interest rate is set by the bank using the
balances of exchange settlement. For ensuring smooth functioning of the cash market, the
supply of exchange settlement balances is set by RBA. The settlement of payment between
the banks is facilitated by providing an appropriate level of balances of exchange settlement.
When lending or borrowing in the cash market, it is ensured by the corridor of interest rate
that bank is not deviating from the target cash rate. The monetary policy is implemented by
RBA in Australia and guide the policy rate using the interest rate corridor (Kosov et al.
2016).
2.2 Evaluating the role of regulations on banks in performing their responsibilities:
The regulatory arrangements of financial services Reform Act 2001 entrust RBA with
the responsibility that there is consistency between the affairs of settlement and clearing
facilities and overall stability of the financial system. It is required by RBA as a part of this
role to monitor whether the settlement and clearing facilities complies with the standards of
financial ability (rba.gov.au 2019).
3. Evaluating the current economic environment of Australia, employment of monetary
policy by central bank and impact of such policies on the financial markets:
3.1 Describing the Current economic scenario of Australia:
The economic outlook of Australia has deteriorated and such scenario remain
reasonable with the growing intensification recently due to the associated downside risk of

FINANCIAL MARKET AND INSTITUTES
dispute in the international trade. In the later this year, it is expected that the economy would
strengthen due to growth in household income, low level of interest rate, growth sector
outlook and infrastructure investment. In addition to this, a number of factors reflect subdued
inflationary pressures such as increased retailing competition, slow growth and the housing
market adjustment. The return of inflation to the target range of 2-3 percent have been
delayed due to these factors. For the last three years, inflation has been below 2% and it is
expected that there will be an increase in the inflation rate. However, for some time yet, the
likelihood of the inflation to be in the range of 2%-3% is less. Nevertheless, the Australian
economy has benefitted from internationally flexible inflation target. Such internationally
flexible target has assisted in RBA in achieving its broad objectives by setting the monetary
policy. It is apprehensive that the medium risk would be enhanced due to lower interest rate
due to increasing household debt.
3.2 Identification the association between the monetary policies and financial market:
The monetary policy influences the expectation of future return and this creates an
impact on the value of assets. In addition to this, the information contained in the prices of
assets forms the basis of the response of the policy in influencing the price of assets. The
perceived excess demand shocks and any rise in the asset value is responded by the central
bank by way of tightening its policy rates. In addition to this, the asset price and interest rate
of the monetary policy on the aggregate demand impacts the asset value (Pwc.com 2019).
This requires change in the interest rate by combining asset price and interest rate movements
that offset excess demand shock effect on the deviation in the output.
Financial market is aggregately impacted by the monetary policy and this incorporates
creating an impact on long term bond yield due to short term interest rate. Yield from bond
trade at lower level when the rate of interest is at lower level. An increase in the monetary

FINANCIAL MARKET AND INSTITUTES
growth lowers the short term interest rate and this short term increase in the interest rate
creates negative impact on the bond yield. It can be therefore inferred that the financial
market is impacted by the monetary policy by creating impact on the bond yield and assets
value (businessinsider.com.au 2019).
4.1 Outlining the relevance of leverage to RBI governor in the article:
The banking system of the country such as Australia acts as the leveraged play on the
cyclical shock as well the economy. The process of risk amplification is dependent upon the
leverage offered by the banking system of the country. One of the important sources of
systematic risk offered is attributable to the interconnections and size of the bank within the
real economy. The dynamic leverage of the banking system would be able to handle the
falling and growing economy. This is what has been explained in the article titled” RBA joins
race to the bottom” that talks about the resurrection of inflation due to the adoption of
intensive monetary policy. Reserve bank of Australia is not able to increase the rate of
inflation despite the fact that the job market of Australia has improved along with the
economic growth. It is pointed I the article that the lower rate of inflation would bring the
bank to the risk of deflationary spiral and this comes with the response of the banks to drive
down the rate of interest and even negative. The downward adjustment in the inflation has not
been able to be prevented by the banks despite the healthier outlook of economy of Australia.
The bottom line is that the leverage offered by the banks would help in protecting the
economy from the downfall and thereby the target leverage increased overtime would help in
putting the drop in recession speed (Bartholomeusz 2019).
4.2 Discussing the relevance of leverage to the central bank practice:
Highly leveraged Australian banks are able to fund most of the assets using fixed
price liabilities. The creditors and investors would be provided with the smaller buffer against

FINANCIAL MARKET AND INSTITUTES
the losses that is made on the assets of bank. During the time of uncertainty or the financial
distress, such leverage increases the incentive to make withdrawal of the funds from the
banks. The leverage in the economy can be increased by the increased systematic risk due to
the lower interest rate that would help in boosting the price of assets, stimulating the credit
demand and increasing the economy leverage. Development of such leverage is accompanied
by the increase in inadequate risk pricing and marginal lending (Lowe Governor 2019).
Leverage has been enhanced with the development of banking and the dynamics of
doing the business is changed due to leverage as this calls for appropriate management with
the generation of higher return. The Reserve bank of Australia is driven by higher leverage
ratio due to increase in the capital risk over the past few years. However, finalization of the
framework of leverage ratio at the international level is yet to be done. Moreover, the
leverage ratio of the banks is regulated by the governing body and the leverage is around the
intermediate of international banks (abc.net.au 2019).
5. Evaluating the impact of monetary policies on Australian securities value, personal
savings account, superannuation and fund investment:
5.1 Identifying the association between securities value and monetary policy:
The implementation of monetary policy comes with flexibility when done through the
market operation and it causes flexibility in the short term interest rate. The impact on the
securities market is created by the monetary policy of RBA when the easing of policy is done
for the achievement of explicit macroeconomic objectives by adopting the approach of
quantitative easing. Under such situation, the main policy instruments such as transitioning to
open and large ended purchase of non-government and government securities from the cash
target. In such situation, the amount of reduction in the official cash rate should be equivalent

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to buying of the securities. The effectiveness of monetary policy is limited by the sale of
shorter term securities and the price of securities increases due to purchase of bond by the
central bank and this weakens the exchange rate and lowers the credit spread and risk (Polzin
et al. 2016).
5.2 Evaluating the impact of monetary policy on superannuation investment and
individual savings accounts:
The development of monetary policy is the primary decision making of Reserve bank
of Australia with the objective of promoting economic welfare and prosperity of people of
Australia. For the settlement of interest rate, one of the main factors accounted by the bank is
the cash rate. The term deposits and saving accounts of individual also moves in line with the
cash rate and this implies that individual would expect attractive return on their saving with
an increase in the cash rate. On other hand, there will be fall in the interest rate on savings
with the fall in cash rate. That is the tighter monetary policy lowers the interest rate and
thereby return on the savings and vice versa (Derwin 2019).
Cash rate in Australia:

FINANCIAL MARKET AND INSTITUTES
(Source: rba.gov.au 2019)
The analysis of associated policy and replacement rates accounts for the needs of
individual in both pre-retirement and retirement years. The retirement income can be
increased by increasing the gross savings of individual. Such savings of the individual is
impacted by the monetary policy. A tightened monetary policy creates a negative impact on
the savings of individual because of falling interest rate and loose monetary policy creates a
positive impact on the individual savings with such savings are driven by an increased or
enhanced rate of interest on their savings (Karp 2019).
Making investment in superannuation is a crucial part of national savings and
household and the stability of the financial system of Australia has been supported by
superannuation sector. The level of retirement income of people in Australia is impacted by
one of the determinants such as mandatory superannuation arrangements and the combination
of superannuation assets would provide funding to people in retirement. The policy of central
government that is monetary policy influences the ability of the people to accumulate private
savings in retirement (Bis.org 2019). Such policy influences the superannuation assets level
of remuneration and charges and fees imposed on the provider of superannuation. The
efficiency and the competition in the superannuation sector is increased by the commitment
of government to the policy funding selection. Loosening monetary policy would help in
increasing the superannuation sector efficiency and places downward pressure on the fund
charges and administration fees and contributes to increased return on the fund of
superannuation (afr.com 2019).

FINANCIAL MARKET AND INSTITUTES
6. Identifying the role of ADI in dealing with the liquidity, credit, interest and operating
risk in Australia:
6.1 Discussing the impact of ADI on liquidity, credit, interest and operating risk:
The ADI have become resilient to the potential losses since the global financial crisis
because of their contribution in considerably improving the position of capital. Since mid-
2017, there has been moderation in the growth of housing credit because of decline in lending
by ADI. In the environmental of financial and economic stability, it is important to
incorporate the system wide risks in the residential and housing market by the lending
practice. The operating risk is regulated by the introduction of measures that reinforces the
lending standard which put restriction on sharing of high lending risk such as high debt
servicing level and placing a cap on housing lending to the investors (Jeng and Huang 2015).
Capital ratios of major banks:
(Source: rba.gov.au 2019)
The interest rate in the economy is managed by ADI as they are permitted to set and
review their own minimum interest rate floor. A mandatory interest rate buffer of 2.5% is
applied by ADI. In setting the serviceability floor, the change has provided greater flexibility

FINANCIAL MARKET AND INSTITUTES
and reflecting uncertainty in assessment of credit by the application of appropriate buffer
(aph.gov.au 2019). In addition to this, the urgency for the cut in the interest rate by RBI has
eased due to the introduction of creation of interest rate buffer by ADI.
6.2 Identifying the impact of Basel accords on liquidity and capital risk of Australia:
Introduction and reforms brought from the Basel helps in creating a resilient and
robust banking system. Various Basel such as I, II and III helps in addressing leverage and
capital risks by changing the requirement of capital and introduction of leverage ratio. In
addition to this, the requirement of liquidity ratio requires the bank to make hold of high
liquid assets so that stable funding is maintained. The capital requirement under the current
Basel was increased and this was done to shield the bank from financial distress.
Furthermore, it is expected that the capital requirement of banks will be impacted because of
reallocation of capital and increased capital consumption. The approach of RWA (risk
weighted assets) calculation would be changed due to Basel IV and the portfolios, individual
product and other areas of business will be directly impacted by high risk sensitivity. The risk
of market illiquidity is incorporated in the framework of new model as per the approach of
revised internal models (abc.net.au 2019).
Conclusion:
The report addressing the role of central bank of Australia elucidates that the banking
system if the country plays a crucial role in stabilizing the economy. In addition to this, the
monetary policy adopted by the bank considerably influences the bond yield and value of
assets. In the current scenario, the inflation is below the target level with cutting down of the
interest rate. The liquidity and the capital risks prevailing in the Australian economy is
impacted by the introduction and reforms of several Basel accords. Furthermore, the managed
fund, superannuation investment and personal saving accounts of individual is indirectly

FINANCIAL MARKET AND INSTITUTES
impacted by the adoption of tighter or loose monetary policy. The implications of liquidity
has also been considered on the superannuation investment which is driven by the monetary
policy of RBA.

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