Investing Portfolio Management International Investing Greenspan and Bernanke Put and Other Central Bank Tools By Justin Kuepper Justin Kuepper Twitter Justin Kuepper is a financial analyst, journalist, and private investor with over 15 years of experience in the domestic and international markets. learn about our editorial policies Updated on March 20, 2022 Reviewed by Andy Smith Reviewed by Andy Smith Andy Smith is a Certified Financial Planner (CFP), licensed realtor and educator with over 35 years of diverse financial management experience. He is an expert on personal finance, corporate finance and real estate and has assisted thousands of clients in meeting their financial goals over his career. learn about our financial review board Fact checked by Emily Ernsberger Fact checked by Emily Ernsberger Twitter Emily Ernsberger is a fact-checker and award-winning former newspaper reporter with experience covering local government and court cases. She also served as an editor for a weekly print publication. Her stint as a legal assistant at a law firm equipped her to track down legal, policy and financial information. learn about our editorial policies Photo: Richard Sharrocks / Getty Images The term Bernanke put has become almost as ubiquitous as the Greenspan put was during the late 1980s and 1990s. Derived from the concept of a put option, these terms refer to central bank policies that effectively set a floor for equity valuations. For instance, Alan Greenspan, former chair of the Federal Reserve, was known for lowering the fed funds rate whenever the stock market dropped below a certain value, which resulted in a negative yield and encouraged movement into equities. In these situations, investors have been given a put option of sorts by central banks since they have a price floor in place. For example, an investor holding shares of a broad market index may have a sort of guarantee from the central bank that the stock won’t drop below 20% since if it did, the central bank would intervene with low-interest rates to boost equity valuations. There was no actual guarantee by the central bank, but the precedent was enough for many investors. About the Central Bank Central banks have a number of different tools at their disposal designed to influence interest rates and thereby impact asset prices. Since the 2008 economic crisis, this tool set has expanded to include options designed to influence asset prices directly. For example, the U.S. Federal Reserve began directly purchasing mortgages and Treasurys during the economic downturn to boost the prices and liquidity of these assets during times of trouble. The most common tools used in monetary policy include: Money Supply: Central banks can purchase government bonds to increase the money supply or sell them to reduce the money supply in what are known as open market operations. Changes in money supply, in turn, affect interbank interest rates. Interest Rates: Central banks can directly set interest rates, such as the U.S. overnight bank lending rate, to control the demand for money. Higher interest rates generally equate to less demand and vice versa for lower interest rates. Bank Reserves: Central banks can mandate the amount of money that commercial banks must hold as reserves, thereby influencing the money supply in an indirect way. Higher reserve ratios reduce the money supply and vice versa for low reserve ratios. Quantitative Easing: Central banks have increasingly resorted to directly purchasing certain assets to increase the monetary base and restore liquidity to otherwise illiquid markets, such as the market for mortgages in the U.S. in 2008 and 2009. Moral Hazards Central banks have historically been tasked with controlling inflation by influencing interest rates via open market operations. Many central banks have expanded their mandates to focus instead on economic growth, employment, and financial stability. Since the 2008 economic crisis, the result has been chronically low interest rates designed to stimulate economic growth and improve employment rates within many countries around the world. The problem is that these mandates may conflict with each other at times, such as how low interest rates have caused a debt bubble in many countries since companies and consumers are encouraged to take on more debt. Flooding the market with cheap cash could also become a problem when economic growth returns since the excess capital could quickly lead to inflation unless it’s properly handled by raising interest rates in a timely fashion. Central bank puts can also become a moral hazard since market participants will take on greater risks knowing the banks will incur the associated costs. For example, if a central bank implements monetary policy every time the market falls 15%, investors in the market may be willing to take on greater risk knowing that they will likely be rescued by monetary policy. And ultimately, these problems can cause instability within a marketplace. Limits to Monetary Policy The aftermath of the 2008 global economic crisis has also led to concerns about the limits of monetary policies' impact on the economy. With long periods of low interest rates and bond-buying programs in place, there may be fewer measures available to central banks to stimulate the economy and provide a boost to equity prices. In particular, a key problem following the 2008 financial crisis has been an inability to spur inflation at or above the 2% target rate in the United States. The lack of inflation has many economists concerned that the economic recovery isn't evenly spread and beneficial to everyone. For investors, this means that the long-term beneficial effects are less certain than during durable recoveries that include a healthy dose of inflation. Was this page helpful? Thanks for your feedback! Tell us why! Other Submit Sources The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy. Federal Reserve. "The Federal Reserve's Policy Actions During the Financial Crisis and Lessons for the Future." Federal Reserve Bank of St. Louis. "Effective Federal Funds Rate." Federal Reserve. "Why Does the Federal Reserve Aim for Inflation of Two Percent Over the Longer Run?"