Central banks have several instruments that they can use to conduct monetary policy. One of these is interest rate. How does a central bank influence interest rates? Some central banks still use regulation to control interest rates. This direct control is a heavy handed and inefficient way to set interest rates and is common in markets that are not well developed. Many central banks, like the Reserve Bank of Fiji, now use the market to influence interest rates. The process through which the central bank influences rates is called “Open Market Operations” or OMO.
What exactly are OMO? How is it conducted? Why are they necessary and desirable? In this article, we will try to answer these questions in a very simplified way.
What is OMO? Interest rates can be regarded as the cost of money. The price of a commodity depends on how much of that commodity is available for sale. For instance, if dalo is plentiful in the market, the price will tend to decline. The same thing can be said for money. If more money becomes available, the price or interest rates will tend to decline.