Definition of central bank
: a national bank that operates to establish monetary and fiscal policy and to control the money supply and interest rate
First Known Use of central bank
Financial Definition of CENTRAL BANK
What It Is
A central bank is an institution responsible for determining the monetary policy of a nation or group of nations.
How It Works
Exact duties vary by country, but generally a central bank's main goals are to maintain a stable currency, control inflation and maximize employment through the promotion of reasonable economic growth.
Examples include the Federal Reserve Bank (U.S.), the European Central Bank (EU) and the Bank of Japan (Japan).
Short-term rate changes are the most publicly followed central bank actions. Entities with a fiat currency (a currency backed by the full faith of the issuer) can loan as much money to banks as they want. The lower the rate, the more banks want to borrow in order to lend to consumers. Thus, by changing the short-term rate target a central bank can influence the amount of lending and borrowing in a country.
Open market operations are another key economic influence. With this method, the central bank either buys or sells Treasury bonds. Buying Treasuries puts money into circulation and selling Treasuries removes it -- thereby increasing or decreasing the supply of money in an economy.
The last tool is the use of capital requirements. Commercial banks take in deposits and then loan it out at higher interest rates. But they don't necessarily loan out one dollar for every dollar they take in; banks are required to keep a certain amount of capital on hand in order to safely cover a surge in withdrawals from customers. Increasing this capital requirement results in less money being available for lending -- thus potentially slowing an economy. Likewise, lowering the capital requirement leads to a greater amount of funds being available for borrowing.
Why It Matters
Central banks are the heart of a country's monetary policy, and their actions exert considerable influence on every aspect of a country's economy. Thus, central banks are key in ensuring boom and bust cycles do not hurt the long-term direction of their respective economies and ensuring steady, stable economic growth.
CENTRAL BANK Defined for English Language Learners
Definition of central bank for English Language Learners
: a bank that does business with other banks and with the government and that controls a country's money supply and interest rates
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