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Sterilization

The method by which a central bank prevents payments surpluses or deficits from affecting the domestic money supply. If there is a surplus in the balance of payments on current and capital account combined, this leads to a rise in the foreign exchange reserves, and an increase in the money supply. If the central bank does not want the money supply to increase, it can prevent this by selling securities so as to sterilize the cash inflow. Similarly, if there is a deficit in the balance of payments on current and capital accounts combined, this leads to a loss of foreign exchange reserves and a shrinkage in the money supply. If the central bank does not want the money supply to fall, it can sterilize the cash outflow by buying securities. The central bank can choose to sterilize some proportion rather than the whole of the monetary effects of changes in foreign exchange reserves.

Reference: Oxford Press Dictonary of Economics, 5th edt.