The goal of a contractionary policy is to reduce the money supply within an economy by decreasing bond prices and increasing interest rates.
Reducing spending is important during inflation because it helps halt economic growth and, in turn, the rate of inflation.
How do we stop inflation?
Policies to reduce inflation
- Monetary policy – Higher interest rates.
- Tight fiscal policy – Higher income tax and/or lower government spending, will reduce aggregate demand, leading to lower growth and less demand pull inflation.
How is inflation controlled?
Inflation is generally controlled by the Central Bank and/or the government. The main policy used is monetary policy – set by Central Banks. Monetary policy – Setting interest rates. Higher interest rates reduce demand, leading to lower economic growth and lower inflation.
What is the main cause of inflation?
There are two main causes of inflation: Demand-pull and Cost-push. Both are responsible for a general rise in prices in an economy.