How does the central bank control the money supply?

The central bank controls the money supply primarily through open market operations and adjusting interest rates. Open market operations involve the buying and selling of government securities in the open market; when the central bank buys securities, it increases the reserves of commercial banks, leading to an increase in the money supply. Conversely, when it sells securities, it takes money out of circulation, thereby decreasing the money supply.

Adjusting interest rates is another critical tool. By lowering interest rates, the central bank encourages borrowing and spending, increasing the money supply in the economy. Conversely, raising interest rates tends to discourage borrowing, which can reduce the money supply.

In contrast, options such as fiscal stimulus measures, implementing tariffs, and changing tax rates pertain more directly to government fiscal policy rather than monetary policy. They do not give the central bank direct control over the money supply in the way that open market operations and interest rate adjustments do. This distinct function of the central bank in managing the money supply is vital in maintaining economic stability and influencing overall economic activity.