Transcript increasing interest rates

Wages are sticky
Thrift is paradoxical
Money multiplies
Produce so we buy
Recessions are natural
Equilibrium
Animal spirit
The multiplier effect
Start spending right now
government spending
stimulates economy
awesome in short term
Flexible prices
Recessions are natural
Equilibrium
Not one thing is ever free
Let the prices work
People pretend to know things
Economic Policy
Day 1
Objectives:
1.Identify phases of business cycle.
2.Develop an economic policy for various episodes in
history.
3.Make conclusions as to why different episodes may
necessitate different policies.
EQ 4-8
How should the government carry out its
economic role to accomplish the goals of full
employments, increased production, and
stable prices?
Why is this question difficult to answer?
EQ 4-8
Which philosophy wins?
Why?
Fiscal Policy (Demand side)
Who- Congress
What- increasing or decreasing spending and Revenue (taxes)
Goal- Impact Aggregate Demand - full employment, stability, and growth
Keynesian economics
President sets the budget, Congress develops programs- they can tax and borrow
Commerce clause – etc.
Raising Revenue- Tax or Borrow
Spending- increase of Decrease (discretionary and nondiscretionary)
Will impact
C and G
Monetary Policy (Demand side)
Who- the Federal Reserve
What- increasing or decreasing the amount of money in circulation
Goal- full employment, stability, and growth
Easy Money Supply- increasing money supply and decreasing interest rates
Open Market OperationsDiscount RatesReserve Requirements-
buy securities
lower discount rate
lessen requirements
Tight Money Supply – decreasing the money supply and increasing interest rates
Open Market operationsDiscount RatesReserve RequirementsWill impact I and C and G
sell securities
increase discount rates
increase requirements
How to fix the economy? According to . . .
Fiscal Policy
Increase Government
Spending
During a
Recession
With high
unemployment
Decrease Taxes
Deficit spending is
acceptable
During
Expansion Let Tax breaks expire or
increase tax
Supply Side Policy
Easy $
Cut tax on Business
Buy Securities from banks
Reduce Regulation
or dealers
Decrease Discount Rate
Decrease Government
Spending
With high
inflation
Monetary Policy
Reduce Reserve
requirements
All ideas intended to
lower interest rate
Tight $
Sell securities to banks
Increase Discount Rate
Increase Reserve
Requirements
All ideas intended to
increase interest rates
Give business a chance to
expand and hire
No capital gains tax or
marginal (progressive
income tax)
Do nothing the market
will take care of itself.
Inflationary and Recessionary Gaps- Steering the Market
Economic
Activity
Potential
GDP
Inflationary Gap
(Full Employment)
Recessionary Gap
Time (years)
The Government can steer the economy in different ways
1. Laws and Regulations- stabilizers
2. Fiscal Policy- changes in government spending or taxation to influence the economy
3. Monetary policy- changes in monetary supply to influence the interest rates that influence economy
Summary
Recessionary Gap
Actual GDP < Potential GDP
Output is below full employment
High unemployment
Government wants to limit unemployment by increasing demand
Fiscal Policy:
Gov’t can increase gov’t spending or decrease tax on consumers. AD = C + I + G + NE
Monetary Policy: Federal Reserve can increase money supply or decrease interest rates.
AD = C + I + G + NE
Summary
Inflationary Gap
Actual GDP > Potential GDP
Output is beyond full employment
Unemployment very low
Prices very high
Government wants to limit inflation by reducing demand
Fiscal Policy:
Gov’t can decrease gov’t spending or increase tax on consumers. AD = C + I + G + NE
Monetary Policy: Federal Reserve can decrease money supply or increase interest rates.
AD = C + I + G + NE
Deficit Spending- annually – When the government spends more that it brings in as tax
revenue.
Deficits make good politics, why?
It is popular to cut taxes and to increase spending.
How do we pay for the deficit? Borrowing
Debt- Accumulation of Deficits over the years
Surplus- when Revenue exceeds spending (annually)
Choose your own Policy
You and your group have been hired by a well-known economic think tank. Your think tank is
famous for developing and publishing economic policies that are often adopted by the
government as official policy. Although you do this every year, the government and the public
take a specific interests in what you propose during periods of economic uncertainty.
First, the only information that you will have at your disposal is data from the 3 main indicators
of GDP, unemployment rate, and inflation rate.
Second, you and your group have to uphold the reputation of the think tank by only making
suggestions that fall under 1 of the 3 categories below. It is also acceptable to create a policy
that is a combination of the three. Remember the overall goals of any economic policy; lower
unemployment, growth, stable prices, and improved standards of living.
a. Fiscal Policy- Congressional economic policy dealing with spending and taxation. How much
Congress spends and how and who they tax will have an impact on over-all GDP.
b. Monetary Policy- Federal reserve policies that involve increasing or decreasing the amount
of money available to spend or borrow.
c. Do nothing- take a hands off approach, this includes letting individuals succeed and fail.
d. Supply-side – create policy that boost Aggregate supply
I will act simply as a consultant to you and your group. I will present data and information regarding the
time period. Additionally, I will provide you with some clarity on how policies that are intended to impact
one indicator can and will impact other indicators as well.
A demand side approach is intended to impact aggregate demand and therefore impact price levels,
spending, GDP, and employment
Examples: taxes, spending, and monetary policy
Expansionary policy intended to boost GDP and/or lower unemployment rates may result in higher prices.
When the “bubble” becomes too inflated it burst and we get recession.
Examples: Cutting taxes, increasing government spending, increasing money supply, and lowering interest
rates.
Contractionary policy or policy intended to slow the rate of inflation have a tendency to lower aggregate
demand and thus lower production needs and the use of resources (this includes labor).
Examples: increasing taxes, cutting government spending, decreasing money supply, increasing interest
rates
A supply-side approach is intended to impact aggregate supply and therefore lower prices, which will in turn
boost demand and decrease unemployment.
Examples: cutting taxes on business, increasing education, increasing technology, removing regulations, and
removing barriers of entry.
Scenario
Great Depression
1930’s
Indicators from year to year
Up or down?
5 year
trend
GDP
Economic Policy
Economic Goal for year 6?
Main Economic goals moving forward? Stable prices, unemployment, growth?
% of GDP that is G spending?
Unemployment rate
Policy? What are the intended outcomes?
inflation rate?
Is your policy demand side or supply side? Explain your logic
What is happening in year 5?
Late 1940’s
Early 1950’s
5 year
trend
GDP
Economic Goal for year 6?
Main Economic goals moving forward? Stable prices, unemployment, growth?
% of GDP that is G spending?
Unemployment rate
inflation rate?
Policy? What are the intended outcomes?
Is your policy demand side or supply side? Explain your logic
What is happening in year 5?
Late 1970’s
5 year
trend
GDP
% of GDP that is G spending?
Unemployment rate
Economic Goal for year 6?
Main Economic goals moving forward? Stable prices, unemployment, growth?
Policy? What are the intended outcomes?
inflation rate?
What is happening in year 5?
Today
2007-2013
5 year
trend
GDP
Is your policy demand side or supply side? Explain your logic
Economic Goal year 6?
Main Economic goals moving forward? Stable prices, unemployment, growth?
% of GDP that is G spending?
Unemployment rate
Policy? What are the intended outcomes?
inflation rate?
Is your policy demand side or supply side? Explain your logic
What is happening in year 5?
1929- 1933 The beginning to
the Great Depression
The overall size of the American
economy, measured by gross
domestic product, sharply
declined following the crash on
Wall Street—from $103.6 billion
in 1929 to $66 billion in 1934.
Full and healthy employment in
1929 at 3.2% abruptly shifted with
the crash on Wall Street and
ensuing global depression. Rising
unemployment reached doubledigits in late 1930, and the
situation continued to deteriorate
through the bleak winter of 193233, when well over a quarter of all
workers were unable to find jobs.
Average Annual Inflation Rates:
What did the Government decide to do?
FDR and the Congress passed New Deal Measures that called for an increased government
spending and government projects.
The economic recovery of 1933-1937, among the most dramatic in US history, saw double-digit
annual gains, although a tax increase and cutback in government spending in 1937 threw the
economy back into recession. Complete recovery from the economic misery of the Great
Depression only arrived after 1940, when mobilization for World War II caused a huge increase in
industrial production; between 1940 and 1945.
Franklin Roosevelt's New Deal greatly increased the size and scope of government during the
1930s, then World War II increased government spending even more dramatically in the early
1940s, skyrocketing to consume nearly half the US economy during World War II.
The New Deal helped to reduce unemployment from 1933 through 1937, when another
economic recession briefly caused a resurgence in joblessness. Full employment did not return
until the war years of the early 1940s.
1930’s and 1940’s
Great Depression
Increase Government Spending to boost
Aggregate Demand
Who Wins?
Keynesian economics or Classical economics
Late 1940’s to the early 1950’s
Inflation was an important issue
during the 1950s because of two
major waves of inflationary
conditions swept the country at
this time. The first followed the
end of World War II and the
second at the onset of the Korean
War in 1950. Post World War II
America waited expectantly for the
United States to suffer a postwar
economic collapse. The recession
came in the third quarter of 1948
and lasted until the second quarter
of 1950.
The causes of this inflation are not
fully understood. Slow economic
growth and slow increases in the
money supply are considered the
most probable culprits. At this time
the money supply rose much more
slowly than the Gross Domestic
Product.
Average Annual Inflation Rates:
What did the Government decide to do?
The economy overall grew by 37% during the 1950s. At the end of the decade, the median
American family had 30% more purchasing power than at the beginning.
Inflation, which had wreaked havoc on the economy immediately after World War II, was
minimal, in part because of Eisenhower's persistent efforts to balance the federal budget.
Except for a mild recession in 1954 and a more serious one in 1958, unemployment remained
low, bottoming at less than 4.5% in the middle of the decade.
Many factors came together to produce the Fifties boom. The G.I. Bill, which gave military
veterans affordable access to a college education, added a productive pool of highly-educated
employees to the work force at a time American businesses were willing to pay handsomely
for engineering and management skills. Cheap oil from domestic wells helped keep the engines
of industry running. Advances in science and technology spurred productivity. At the same time,
potential competitors in Europe and Asia were still recovering from being bombed into
smithereens during World War II.
Eisenhower attempted to balance the budget while keeping some New Deal policies.
Policies to promote private growth were emphasized.
Government programs such as the highway act were developed.
Stagflation and the 1970’s
By the time that Jimmy Carter took
office, the US economy was well into a
cyclical expansion, but Carter, after
replacing Arthur Burns as Fed chairman
with the clueless G. William Miller,
encouraged Miller to continue a policy of
rapid monetary expansion, producing
rising inflation in 1977 and 1978.
Once again, unnecessary monetary
stimulus produced rising inflation and
rising inflation expectations just before a
second oil-price shock, precipitated by
the Iranian Revolution, began in 1979.
The combination of rising inflation
expectations and rapidly rising oil prices
(exacerbated by the continuing controls
on petroleum pricing causing renewed
shortages of gasoline and other refined
products) caused a leftward shift in
aggregate supply, causing inflation to
rise while output fell. Hence the second
episode of stagflation.
Average Annual Inflation Rates:
What did the Government decide to do?
Reagan (1981-1989) based his economic program on the theory of supply-side economics,
which advocated reducing tax rates so people could keep more of what they earned.
Supply-side economics is a school of macroeconomics that argues that economic growth can be
most effectively created by lowering barriers for people to produce (supply) goods and services,
such as lowering income tax and capital gains tax rates, and by allowing greater flexibility by
reducing regulation. According to supply-side economics, consumers will then benefit from a
greater supply of goods and services at lower prices. Typical policy recommendations of supplyside economists are lower marginal tax rates and less regulation.
There is was an initial recession in 1982 but by the middle of the 1980’s inflation rates were
dramatically cut while GDP increased. By the late 1980’s unemployment dropped to the NRU.
Supply-side Economics
Supply-side economist believe that economic growth is driven by increasing aggregate supply.
By increasing supply, prices drop
Law of demand: Lower Prices increase the Quantity Demanded
Wealth is created and standards of living increase not because we demand but because we
produce.
As suppliers produce more, prices lower.
As price lowers, the quantity demanded increased.
Suppliers will need to supply more and this gives them more money to spend on other goods
and services.
3 main methods:
1. Lower taxes on employers, employees, and those who invest in business expansion.
2. Remove unnecessary regulations that prevent efficiency, restrict competition, and promote
artificial scarcity. This will also have the secondary effect of decreasing the size of
government.
3. Monetary policy- the Federal Reserve needs to adopt Milton Friedman’s money supply
rule.
a. Increase labor market flexibility- Lower min. wage, Weaken trade unions, Reduce
unemployment benefits
b. Invest in education
c. Advancements in technology – lowers production cost and creates new markets
d. Lower income tax and capital gains tax- eliminate progressive tax (marginal tax rates)
e. Lower corporate tax rates
f. Invest in infrastructure
g. reduce regulations and oversight
h. Remove barriers of entry (licenses, certs. Etc.)
Concerns:
Pollution, people will take advantage of others without government regulations, less
government revenue, and tax cuts will only help the rich.
How to fix the economy? According to . . .
Fiscal Policy
Increase Government
Spending
During a
Recession
With high
unemployment
Decrease Taxes
Deficit spending is
acceptable
During
Expansion Let Tax breaks expire or
increase tax
Supply Side Policy
Easy $
Cut tax on Business
Buy Securities from banks
Reduce Regulation
or dealers
Decrease Discount Rate
Decrease Government
Spending
With high
inflation
Monetary Policy
Reduce Reserve
requirements
All ideas intended to
lower interest rate
Tight $
Sell securities to banks
Increase Discount Rate
Increase Reserve
Requirements
All ideas intended to
increase interest rates
Give business a chance to
expand and hire
No capital gains tax or
marginal (progressive
income tax)
Do nothing the market
will take care of itself.
1970’s
Stagflation – high unemployment and high
inflation.
1980’s
Supply-side economics
Who Wins?
Keynesian economics or
Classical/Austrian economics
2008
Due to mortgage foreclosures and the
bubble bursting on the housing market,
many majors banks in the United States
were on the edge of failure. This started a
downward spiral that impacted numerous
markets including the auto markets.
Biggest problems:
Potential Bank Failure of major Wall street
banks
Potential Some Auto companies filing for
bankruptcy
High unemployment rates
Average Annual Inflation Rates:
Deflation
What would Keynes suggest?
What would Hayek suggest?
What caused it?
What would Keynes agree with?
What would Hayek agree with?
1. Low interest rates prevented savings and led to no real
production. Hayek
2. Poor practices from the lending industry caused by their
selfishness. Keynes
3. Poor practices from the lending industry caused by government
laws and cronyism.
Hayek
4. Risky behavior caused by the assumption that government would
Hayek
provide a safety net.
5. Low interest created malinvestments.
6. Tax cuts that led to two unfunded wars.
Hayek
Keynes
2008- 2013
The Great Recession and Less than Great Recovery
Due to mortgage foreclosures and the bubble bursting on the housing market, many majors
banks in the United States were on the edge of failure. This started a downward spiral that
impacted numerous markets including the auto markets.
In October of 2008, President Bush and the Congress bailed out the some wall street banks with
tax payer’s money. The Troubled Assets Relief Program (TARP) bailed out the banks by buying
their subprime mortgages.
In the spring of 2009, President Obama and the Congress bailed out some specific car
companies. This kept them afloat and allowed them to avoid bankruptcy. It was explained to
the American people that both the Wall street banks and General Motors were “too big to fail.”
Also in 2009, the American Recovery and Reinvestment Act was proposed by President Obama
and passed by Congress. Over $803 billion dollars were spent to increase GDP and lower
unemployment.
The following year, The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010 was passed. This was a combination of tax breaks for the middle class and payroll
tax. Also an extension of federal unemployment benefits.
Very slow growth
1948-57: 3.80%
1958-67: 4.28%
1968-77: 3.18%
1978-87: 3.15%
1988-97: 3.05%
1998-2007: 2.99%
2008-2013: 0.73%
2008-2014
Great Recession
Leads to the Stimulus Package- $831 Billion
2010-2014
Slow recovery – businesses are not producing
Who Wins?
Keynesian economics or
Classical/Austrian economics
EQ 4-8
How should the government carry out its
economic role to accomplish the goals of full
employments, increased production, and
stable prices?
Why is this question difficult to answer?
EQ 4-8
Which philosophy wins?
Why?
Day 2
Objectives:
1. Evaluate the effectiveness of policies today
2. Develop arguments for Keynes and Hayek
Stimulus 2009
develop Keynes arguments for
Hayek’s arguments against
EQ 4-8
How healthy is the U.S. economy today?
Has government policy helped or hurt our
economy?
EQ 4-10
To what extent can the statement, “there is
nothing without costs” be applied to
government policies?
Why was our Recovery so slow?
Create an argument that Keynes would
use in a debate.
Create an argument that Hayek would
use in a debate?
Fallacies
Aggregate markets
Fiscal and monetary policy
Video Clips for Presentation
Stimulus Hearing
19:12- 22:10 Economist Against Stimulus Package
45:45- 51:38 Economist speaking about net gain of Stimulus Package
1:32:30- 1:36:00. Economist in favor of the Stimulus Package
Hayek vs Keynes Raps
Fight of Century Keynes vs. Hayek Round 2
Are their arguments for and against similar to your
arguments?
Make a check mark next to your arguments that the
economists speak about.
Why was our Recovery so slow?
What would Keynes and Hayek say?
1. We didn’t spend enough. Keynes
2. Government spending is inefficient and suffers from lag, also it
didn’t help those who needed it the most.
Hayek
3. Mixed messages from the government such as threats to increase minimum
wage and healthcare prevents growth. Hayek
4. Low interest created malinvestments and it will do it again. Hayek
5. Opposition with the other party prevented all important government
action to get through. Keynes
6. To think that people in government know how to direct our resources
better than people in the private sector such as Steve Jobs or Bill
Gates is crazy. Hayek
7. The great recession was much worse than we thought.
Keynes
Explanations for slow recovery
1.
2.
3.
4.
We underestimated the extent of the recession.
We should have spent more. (more demand side)
Government needed to get more involved
Businesses are moving overseas
Or
1. We overestimated government’s ability to fix the economy
2. We spent money on the wrong places.
3. Legislation such as the Affordable care act and Green Energy are causing businesses to put
off growth due to uncertainty. Policies are impacting supply and creating an artificial scarcity.
4. Bailouts waste resources and don’t allow growth.
EQ 4-8
How healthy is the U.S. economy today?
Has government policy helped or hurt our
economy?
What would Keynes say?
What would Hayek say?
What do you think?
EQ 4-10
To what extent can the statement, “there is
nothing without costs” be applied to
government policies?
Day 2
Objectives:
1. Compose your own creative expression.
2. Incorporate economic ideas from unit 4
Formative Quiz
1. According to Keynes what must happen to Aggregate Demand in order to get out of a
recession?
2. What is fiscal policy and who conducts fiscal policy?
3. According to Keynes what is the proper fiscal policy during recession?
4. According to Keynes what is the proper fiscal policy during inflationary periods?
5. What is monetary policy and who conducts monetary policy?
6. According to Keynes what is the proper monetary policy during recession?
7. According to Keynes what is the proper monetary policy during inflationary periods?
Progressive Tax
Laffer Curve
Friedman’s solution to the problems of INFLATION and short-run fluctuations in employment and
real GDP was a so-called money-supply rule.
If the Federal Reserve Board were required to increase the money supply at the same rate as
real GDP increased, he argued, inflation would disappear.
When money supply exceed GDP growth =
Prices rise
When money supply is less than GDP growth =
Prices fall
Money Supply Rule
Money Supply increases at the same rate as GDP growth
"In one sense, we are all Keynesians
now; in another, nobody is any longer
a Keynesian."- Milton Friedman
What do you think Friedman means
in the red and the in the black?
Now its your turn
to be creative!!!!
These may be performed after the
Quiz and/or the day after the quiz.
Hailey Caracio adapted a famous sonnet
Shall I compare thee to a summer's day - Shakespeare
Shall I compare thee to the yearly Gdp?
Thou art more prosperise and high
Rough times do shake the darling rise of GDP
And recession all too long to a date
Sometimes all to low the GDP shines
And too often is his yearly spending dimm'd
And every year from year sometimes declines by chance or mans changing course untrimm'd
By thy eternal worth shall not fade
Nor loose value of that fair thou worth
Nor shall depression brag thou wander'st in his shade
When in eternal worth to time thou growest
so long as men can spend or men produce
So long lives spending and this gives life to GDP
Keynes and Hayek
Keynes says prices are sticky.
But, Hayek thinks, when allowed, they're flexible.
When their jobs are at risk, it's better to keep your job than be picky.
Eventually the markets will reach equilibrium and become stable.
Is it better to boost aggregate demand or let supply create demand?
Do you involve the Congress or the Fed?
Hayek wants the economy to move with the help from the Invisible Hand.
He knows you can't just know people's motivation with just your head.
Start spending now, in the long run, we're all dead.
Money's impact on the economy will multiply.
That's what Keynes said.
All the government has to do is try.
There are many opinions on how to deal with recessions and inflation?
Maybe a balance of Keynes and Hayek would be best for the nation.