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1 Introductory concepts 2  Market mechanism  3 Elasticities  4 Market structures 5  Market failures  6  Macro economic activity/eco growth  7 Inflation 8  Employment & unemployment  9  External Stability  10  Income distribution 11.Factors affecting economy  12  Fiscal/Budgetary policy  13  Monetary Policy   14 Aggregate Supply Policies  15 The Policy Mix

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Monetary policy neutrality

If monetary policy is neither expansionary nor restrictive, it is considered to be 'neutral' or 'normal'.  Monetary policy neutrality describes a situation where the level of the cash rate is neither working to stimulate nor contract the economy.  That is, monetary policy is neither having an expansionary or contractionary effect on the economy.  As at 2015 monetary policy neutrality involves a target cash rate of approximately 3.5%.  This is the target cash rate one would expect to see if the economy's growth rate was running at a strong but sustainable rate (approximately 3.25%), with inflation under control (within the target range of 2-3%).  

Given the changing relationship between the cash rate and market interest rates (as described earlier), the level of the cash rate at which monetary policy neutrality exists will change over time.  Over 2011, monetary policy neutrality occurred when the CR was approximately 4.5%. However, this fell since then as the difference between the cash rate and market interest rates widened due to cost of funding pressure for banks.  In addition, the relatively high levels of household debt has meant that interest rates need to be lower in order achieve any given stimulus compared to the past.

Since 2015, the RBA considered monetary policy neutrality to occur when the cash rate was approximately 3.5%. This effectively means that if the RBA increased the cash rate to 3.5%, the monetary policy stance would move from being expansionary to neutral.  

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