Transcript Money, Monetary Policy, and Fiscal Policy

Money, Monetary Policy,
and Fiscal Policy
Who Am I?
Who Am I?
Who Am I?
Who Am I?
Who Am I?
Money
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Money
 Anything
that is generally accepted as final
payment for goods and services
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Money is NOT the same as wealth or
income
Wealth is the total collection of assets that
store value
Income is a flow of earnings per unit of time
Money
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The Barter System: goods and
services are traded directly.
There is no money exchanged.
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Problems:
Before trade could occur, each trader
had to have something the other
wanted.
2. Some goods cannot be split. If 1 goat
is worth five chickens, how do you
exchange if you only want 1 chicken?
1.
Money
Example: A heart surgeon might
accept only certain goods but not
others because he doesn’t like
broccoli.
 To get the surgery, a pineapple
grower must find a broccoli farmer
that likes pineapples.
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Money
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Money serves these three purposes
1.
Medium of exchange
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2.
Unit of Account
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3.
It can be used to purchase goods and services
It can be used to compare the value of different
goods and services
Store of Value
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It can be held to buy something in the future
Money Supply
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Measuring the Money Supply
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M1 (high liquidity)
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M2 (moderate liquidity) M1 plus:
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Currency, Checking, travelers checks
Savings and investment funds (money market, mutual
funds, ATM accessed savings) that allow investors to make
easy transfers and withdrawals
M3 (Low liquidity) M2 plus:
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Time deposits over $100,000 (CDs, etc.)
Money
What is the difference between credit
cards and debit cards?
Are credit cards money?
A credit card is NOT money. It is a
short-term loan (usually with a
higher than normal interest rate).
Ex: You buy a shirt with a credit card,
VISA pays the store, you pay VISA
the price of the shirt plus interest and
fees.
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Money
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Ex: You buy a shirt with a credit card,
VISA pays the store, you pay VISA
the price of the shirt plus interest
and fees.
Total credit cards in circulation in U.S:
576.4 million
 Average number of credit cards per
cardholders: 3.5
 Average credit card debt per household :
$15,788
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Money
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Commodity money
 Gold,
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silver, copper, etc.
Representative money
 The
gold standard, there must be gold
backing all of the money in an economy
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Fiat money
 Fiat
money is not worth anything by itself, it is
only worth something because the
government says so and we agree.
Money Supply
There is no gold standard. Money is just
an I.O.U. from the government “for all
debts, public and private.”
 What makes money effective?
1. Generally Accepted - Buyers and sellers
have confidence that it IS legal tender.
2. Scarce - Money must not be easily
reproduced.
3. Portable and Dividable - Money must
be easily transported and divided.
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Monetary Policy
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The Federal Reserve System
 Created
in 1914 in response the many
previous bank failures
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The Fed Board of Governors
7
members appointed by the Pres. And
confirmed by the Senate
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12 regional Fed Reserve Banks
Monetary policy
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The Tools of Monetary Policy
1.
Changes in the Discount Rate
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When the fed lowers the discount rate, banks are
encouraged to make more loans and the money
supply increases
When the fed raises the discount rate, banks are
encouraged to make fewer loans and the money
supply decreases
Monetary policy
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The Tools of Monetary Policy
2. Open Market Operations
When the Fed buys or sells U.S. securities to
influence the money supply
 Fed buys, bank deposits increase, banks have
more money to lend, and the money supply
increases
 Fed sells, bank deposits decrease, banks have
less money to lend, and the money supply
decreases
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Monetary policy
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The Tools of Monetary Policy
3. Changes in the reserve requirement
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The reserve requirement is the minimum
percentage that banks must keep to back up
checking-type accounts
Lowering the reserve requirement will increase
money supply
Raising the reserve requirement will decrease
money supply
Monetary Policy
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Example: Assume the reserve ratio in the US is 10%
You deposit $1000 in the bank
The bank must hold $100 (required reserves)
The bank lends $900 out to Bob (excess reserves)
Bob deposits the $900 in his bank
Bob’s bank must hold $90. It loans out $810 to Jill
Jill deposits $810 in her bank
SO FAR, the initial deposit of $1000 caused the CREATION
of another $1710 (Bob’s $900 + Jill’s $810)
Money Multiplier = 1/Reserve Ratio
A reserve ratio of 10% has a money multiplier of 10
A $2 billion increase to money supply will actually
increase the money supply by 20 billion
Monetary Policy
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The Feds other responsibilities:
 The
Fed works as a clearing house for all
checks
 The Fed is also known as the lender of last
resort
 In
cases of emergency the Fed will come to the aid
of ailing banks
 The
Fed also performs stress tests on
member banks.
Fiscal Policy
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Fiscal Policy
 Changes
in federal government spending of
tax revenues designed to promote full
employment, price stability, and reasonable
rates of economic growth
Fiscal Policy
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Expansionary Fiscal Policy
 Increase
in government spending and / or a
decrease in taxes designed to increase
aggregate demand in the economy. The
intent is to increase GDP and decrease
unemployment
Fiscal Policy
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Contractionary Fiscal Policy
A
decrease in gov. spending and / or an
increase in taxes designed to decrease
aggregate demand in the economy. The
intent is to control inflation
Fiscal Policy
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Keynesian approach
 Demand-side
 Focuses
economics
on changing aggregate demand in order
to promote full employment
 Keynes argued that government stimulus could jolt
the economy out of a severe recession or
depression
Fiscal Policy
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Supply-Side Fiscal Policy
 The
idea that fiscal policy might directly affect
aggregate supply. For example, a corporate
tax cut may give businesses incentive to
expand or invest in capital goods with the
money saved.
Fiscal Policy
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Stagflation
A
contraction in the economies aggregate
output (aggregate supply) combined with an
increase in inflation. Stagflation occurred in
the U.S. in 1973 and 1980. It usually results
when the economy is already facing
moderately high inflation and a price shock
occurs (world wheat shortage or oil shortage)
Fiscal Policy
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Laissez-faire
 Classical
economists believed that free
markets without government intervention
were the best way to achieve the economy’s
potential output.
 Classical economists believed that although
there might be occasional downturns in the
economy, natural market forces would correct
things in the long term.
Fiscal Policy
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Discretionary fiscal policy vs. automatic
stabilizers
 Discretionary
Fiscal Policy requires
congressional and presidential action to
change gov. taxing or spending
 Automatic stabilizers automatically adjust to
the ups and downs of the economy.
Unemployment insurance is a good example
during a down economy, progressive taxing is
a good example during an up economy
Fiscal policy
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The problem with Lags
 Recognition
lag
 Are
we in a recession? How bad is the recession?
How much needs to be done? Difficult questions
because a recession isn’t identified until 6 months
after it begins
 Decision
 Action
making lag
by policy makers usually takes months to
approve
Fiscal Policy
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The problem with lags
 Implementation
lag
 The
approved action then takes time to implement
 The recent stimulus checks are a good example
I received mine 4 months after the bill was passed
 Effectiveness
 Once
lag
implemented fiscal policy can take from 9 to
18 months for the full impact to be realized. Will
the economy still need the agreed upon policy?
Fiscal or Monetary Policy
The President is advocating a bill that will
cut taxes by 5%.
 Fed chairman Ben Bernanke is planning on
lowering the discount rate by ¼ point.
 The Fed Open Market Committee
(F.O.M.C.) announced today that it will
selling U.S. securities
 Both houses of the legislature have passed
a bill that will spend $15 billion on
infrastructure.
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Fiscal or Monetary policy?
Zippy received his first unemployment
check today.
 The Fed increased the reserve
requirement today to 28%.
 The President announced today that the
2009 budget will be slashed in half.
 The government announced a tax rebate
today equaling $1000 per person.
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Bonds vs. Stocks
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Pretend you are going to start a
lemonade stand. You need some
money to get your stand started.
What do you do?
• You
ask your grandmother to lend you $100
and write this down on a piece of paper: "I
owe you (IOU) $100, and I will pay you
back in a year plus 5% interest."
• Your grandmother just bought a bond.
Stocks vs. Bonds
Bonds
are loans, or IOUs, that
represent debt that the government
or a corporation must repay to an
investor. The bond holder has NO
OWNERSHIP of the company.
Ex: War Bonds During World War II
 Corporate
bonds, municipal bonds, government bonds, etc.
Stocks vs. Bonds
•To
get more money, you sell half of your
company for $50 to your brother Tom.
•You put this transaction in writing: "Lemo
will issue 100 shares of stock. Tom will buy
50 shares for $50."
• Tom has just bought 50% of the business.
He is allowed to make decisions and is
entitled to a percent of the profits.
Stocks vs. Bonds
Stockowners can earn a profit in two
ways:
1. Dividends, which are portions of a corporation’s
profits, are paid out to stockholders.
The higher the corporate profit, the higher the
dividend.
 2. A capital gain is earned when a stockholder sells
stock for more than he or she paid for it.
A stockholder that sells stock at a lower price than
the purchase price suffers a capital loss.
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