Certified Financial Management Specialist Practice Exam

What is the purpose of contractionary policy?

1. To decrease interest rates and stimulate growth

2. To maintain current economic conditions

3. To increase interest rates and slow economic growth

4. To encourage consumer spending

The correct answer is: To increase interest rates and slow economic growth

The purpose of contractionary policy is to increase interest rates and slow economic growth. This kind of policy is typically employed to combat high inflation by reducing the amount of money circulating in the economy. By raising interest rates, borrowing becomes more expensive, which tends to decrease consumer spending and business investment. This tightening of monetary conditions aims to stabilize prices and ensure that inflation does not exceed a manageable level. In contrast, the other options reflect objectives associated with expansionary policies or maintaining status quo economic conditions, which are fundamentally different from the goals of contractionary policy. For instance, decreasing interest rates is aimed at stimulating growth, not slowing it down, and encouraging consumer spending is also a characteristic of an expansionary approach. Therefore, the choice of increasing interest rates and ultimately slowing economic growth accurately captures the primary intention behind contractionary policy measures.