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A colleague in work mentioned today that Chile is keeping a flat monetary policy rate given "there is a higher expected fiscal deficit".

If there is an expected fiscal deficit (i.e., spending more than what you earn), why would you keep the monetary policy rate low (i.e., lend money cheaper). To me it sounds a little contradictory, but wanted to hear other views.

Is there another reasoning why you would keep a low flat monetary policity rate if there is an expected increase in the fiscal deficit?

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If a country is on a deficit it would want to keep rates low since it will most likely have to borrow money to pay for it's deficit. It also has the possibility of debasing it's currency which in turn debases it's current/future debt.

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Increasing interest rate will also increase the government borrowing costs, central banks are operated by government. If they are not sufficiently independent they will try to do what is best for the government, not to keep inflation stable.

Also if there is a recession, which might even be the reason for government deficit, central bank will keep its rate low to help the economy. Low interest rate boosts GDP.

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