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Fiscal and Monetary Policy
Ch. 24
The Government and the Economy
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Regulating the economy
We want slow growth
If the economy is not doing good we can fall into a
recession (right now) and people can lose their jobs
If the economy is growing too fast we can have
rapid inflation; where prices rise faster than wages
Both are bad – Two ways to make sure our
economy is growing slowly
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Fiscal and Monetary Policy
An economic model is based on which
of the following?
1.
2.
3.
4.
Statistics
Facts
Distortions
Assumptions
Fiscal and Monetary Policies
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Fiscal Policy – Government
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Government spending = Tax Revenue (G=T) = Neutral
Government spending > Tax Revenue (G>T) = Budget
Deficit
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Government spending < Tax Revenue (G<T) = Budget
Surplus
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Higher G spending, lower taxes, or combination of both
Lower G spending, higher taxes, or combination of both
Slow to work and situation changes
Monetary Policy – Federal Reserve
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Controlling the money supply
Availability of money
Cost of money (interest rates)
Mortgage payments are classified
under which cost category?
1.
2.
3.
4.
Marginal cost
Fixed cost
Variable cost
Total cost
The Federal Reserve (FED)
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Independent Agency: part of the government
but unattached to Congress & the President
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Allows them to make economic decisions free
from political pressure
Roles of the FED
1.
2.
Regulates foreign banks that do business in the
U.S.
Our Government’s bank
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3.
Holds government’s money
Buys and Sells Bonds for Government
Issues our currency
Conducts Monetary policy
FED Headquarters in Washington D.C
What contributes the most to the US
GDP?
1.
2.
3.
4.
Goods
Social Studies books
Services
Utilities
The Federal Reserve (FED) cont.
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Board of Governors (7 member board)
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Chairman – Ben Bernake
Alan Greenspan was Chairman from 1987 to 2006
Advisory Council (12 members – 1 from each
district)
Federal Open Market Committee (FOMC) –
major policy making group
12 Federal Reserve Banks & Branch banks
FED Diagram
Federal Reserve Districts
Assets in Each Reserve Bank
Chairmen of the FED
Ben Bernanke
Alan Greenspan
The demand for the following items is
likely to inelastic?
1.
2.
3.
4.
A car
Electricity
A fur coat
A computer
Fractional Reserve Banking
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The tools the FED has to create money
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Discount rate – prime rate which banks borrow
money from the FED
Reserve Requirements – Percentage of deposits
that banks must hold
Open Market Operations – buying and selling of
government bonds
Federal Funds Rate – interest rate that banks lend
to other banks usually overnight
Federal Funds Rate Example
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Suppose a bank issues a loan which takes
money out of the bank and lowers its
reserves. If it falls below the reserve
requirement, it must borrow money from
another bank that has a surplus of funds. The
rate the other banks charge is the federal
funds rate.
Which of the following pairs is not an
example of substitutes?
1.
2.
3.
4.
Margarine for butter
Pens for pencils
Coffee for tea
Dollar coins for dollar bills
Monetary Policy
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Quicker response than fiscal policy
Regulates the amount of money in circulation
Tight Money Policy
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Goal is to stall growth to stop inflation
Taking money out of circulation
Can lead to a recession
Raising interest rates
Raising the reserve requirements
Selling bonds
Monetary Policy cont.
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Loose Money Policy
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Goal is to start growth of the economy to combat
a recession
Increasing the money supply
Can lead to inflation
Lowering of interest rates
Lowing reserve requirements
Buying bonds
Which of the following pairs is not an
example of compliments?
1.
2.
3.
4.
Computers and software
Tennis rackets and tennis balls
Cars and hydroelectricity
Lamps and light bulbs
Fiscal Policy
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Government (politicians) use taxing and spending to regulate the
economy
Tools:
 Tax: can be raised or lowered
 Spending: can be increased or decreased. Ex. Cutting back on
public works projects
Tight Fiscal Policy
 Combat inflation
 Raise taxes
 Cut spending
 Take money out of economy – slow economy
Loose Fiscal Policy
 Combat a decline
 Cut taxes
 Increase spending
 Put money into Economy – grow economy
What is the rough percentage of
American workers who belong to a
union?
1.
2.
3.
4.
92%
38%
14%
77%
Tight Monetary Policy
The FED sells Treasury securities, taking money out of the economy
Federal Funds rate goes up
Short term interest rates go up (% ^) because banks have less money to lend
Consumers and Businesses will borrow less money
Consumer and Business spending will decrease because they have less money
Economic growth and employment may decrease in the short-term