Practice Set 1 Essay

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5. Why did the ECB not lower its core interest rates below 1%?
With the real economy now in freefall, the euro inflation rate decreased from 1.1% in January 2008 to 0% in May. Over this time, the ECB progressively lowered the MRO rate to 1%. It stopped there, apparently out of concern that there would be no more room to reduce rates should the crisis deepen further. The average annual inflation rate for 2009 was 0.3%.
That`s because the core function of the ECB is price stability. And the decisions about interest rate changes were based on two analyses that focused on both the price (interest rates) and quantity (monetary aggregates) of money.
Appropriate interest rates need to suit for inflation rate, furthermore it is a stimulation to the economy by reducing interest rate in short term, it is also good to relive employment pressure and promote the activity of stock market. While it also could set the stage for the sustained highly price level. This is the thing that ECB misgivings about.
But now, in July this year, the core interest rates reduced from 1%to 0.75%.this is the first reduction of interest during 12 months. This decision is made to consider that the risk of economic increase being issued to the lower levels. And the press of inflation rate is controlled. This gives the space for the reduction of interest.

6. Why did the ECB not increase its balance sheet as aggressively as the U.S. Fed?
The ECB’s formal objective was to maintain price stability within the euro-zone, and that presumably extended to defending the euro itself.
The stability seems to very important to the euro. And all the institutional requirements are in place to preserve its solidity in the future. This is what defines success in monetary affairs.
From 2008 to 2009 the U.S. Federal reserve Assets had an incentive to stimulate their economies from fiscal ways. It sharply increased the foreign currency swaps, commercial paper funding facility and term auction facility. Subsequently, the mortgage backed securities came in a large quantity from 09. Actually, those fiscal policies could stimulate economic in some degree, while it is not a good way to long-term economic sustainable development, while ECB took another measure to respond the crisis. There is also a precipitate increase in 2009, while the increase is a sliding scale of assets. The securities of euro area residents in euro, the claims on non-euro area residents in euro and the lending to euro area residents in euro are increased in control. This is may be not very notable in economic in sort terms, for the purpose of stability it is a better way.

7. What has
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