Central bank actions — primarily setting interest rates and controlling money supply — to influence economic growth, employment, and inflation.
Deeper Explanation
Monetary policy is the most powerful near-term driver of financial market conditions. Low rates reduce the discount rate applied to future earnings (raising valuations) and reduce the cost of credit (stimulating borrowing and investment). Rate hikes do the reverse. Ray Dalio's framework divides monetary policy into three tools: interest rate changes (MP1), quantitative easing/tightening (MP2), and direct stimulus (MP3). When the first tool fails (rates at zero), central banks move to the second; when that fails (a balance sheet recession), they coordinate with fiscal authorities. Understanding where the central bank is in its toolkit matters enormously for asset class positioning.
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