Economic Policymaking

How should our government direct fiscal and monetary policy to achieve our economic goals?

EVALUATE THE STRENGTH OF THE US ECONOMY

Create a poster that reflect the consensus at your table• Employment Grade (2 pieces of evidence)• Price Stability Grade (2 pieces of evidence)• Growth in GDP Grade (2 pieces of Evidence)

• Average over all Grade Student Names

So why should I care about the economy?

Current numbers:

U.S. population: 319,213,000 (Oct. 2014)

Inflation: 1.7% (Sept. 2014)

Unemployment: 5.9% (Sept. 2014)

Growth rate: 4.6% (Quarter 2 2014 )

Deficit: $492 Billion (1/3 less than 2013)

Debt: $17.885 Trillion

http://www.usdebtclock.org/

What kind of an economy do we have, anyway? Who’s in control?

Capitalism/Free market

Mixed-Economy

VS.

The federal government plays an important role in affecting the health of the economy

Fiscal Policy: The use of spending and taxation to stimulate or slow down the economy.

Who should control the economy? The consumer or the government?

Liberals tend to favor more government involvement in the economy.

Conservatives tend to favor less government involvement in the economy.

Demand-Side Economics

• What’s the big idea?– Economy composed of 3 sectors-businesses, individuals and

government– Government actions can make up for changes in other 2

• Who’s the Economist behind the idea?– John Maynard Keynes

• What’s the Theory?– Government spending, tax cuts and deficits help the economy

weather its normal ups and downs.

• What’s the role of the Government?– Government’s job to increase demand of goods

Supply-Side Economics

• What’s the big idea?– Taxes have a strong negative influences on economic output. – Consumer stimulates the economy by spending money

• Who’s the Economist behind the idea?– Milton Friedman

• What’s the Theory?– There is too much taxation and not enough money to purchase

goods and services.– Reduce taxation and government regulation then people will

work harder

• What’s the role of the Government?– To increase the supply of goods

How does the economy control voter behavior?

– Economic trends affect who the voters vote for– Economic conditions are the best predictor of

voters’ evaluation of the President

What does everyone (voters and politicians) want to control?

–Unemployment rate–Inflation–Consumer Price Index

How do Congress and the President work to “control” the economy?

– Fiscal Policy: The policy that describes the impact of the federal budget on the economy.

How would you summarize this statement about the government

and the economy?

“Capitalism is the astounding belief that the most wickedest of men will do the most wickedest of things for the greatest good of everyone.”

How would you summarize this statement about the government

and the economy?

“I am favor of cutting taxes under any circumstances and for any excuse, for any reason, whenever it's possible.”

There are two tools of Fiscal Policy

TaxesIncome tax

(Progressive)SalesPayrollProperty

SpendingBudget/government

programsSubsidies

What should the government do if…

Unemployment is 8%GDP is 1.6%Inflation is 2%

STIMULATE THE ECONOMY!

AKA Expansionary Fiscal Policy

Unemployment is 4%GDP is 4%Inflation is 8%

SLOW DOWN THE ECONOMY!

AKA Contractionary Fiscal Policy

Fiscal policy desicions

Expansionary Fiscal Policy:Decrease taxesIncrease spending

Result: Consumers have MORE money to spend!

Contractionary Fiscal PolicY:

Increase taxesDecrease spending

Result: Consumers have LESS money to spend!

What is “the FED” (Federal Reserve)?

• The main instrument for making monetary policy in the US.

• Created in 1913 to regulate banks and money supply (stop PANICS!)

• Seven Members of Board of Governors• Located in Washington with 12 reserve banks

around US.• Appointed by President to 14 year term; must

be approved by Senate

How can the the FED “control” the Economy?

• Monetary Policy and “the Fed”– It manipulates the money supply in private hands

– too much cash and credit produces inflation.– Current Chairman of the Fed: Ben Bernanke

How does “The FED” control the economy?

– The Fed uses tools to influence the supply of money in circulation:• Sets prime credit rate (PCR)• Sets reserve requirements (RR)• Open Market Operations (OMO)

Use of these tools helps to EXPAND or CONTRACT the economy.

The Fed uses three tools to conduct monetary policy

1. Reserve Requirement2. PRIME CREDIT RATE3. Open Market Operations

All three of these tools use BANKS to control the amount of money in the economy.

All three of these tools use BANKS to control the amount of money in the economy.

• INTEREST- The interest rate is the amount banks charge us to borrow from them.

• Banks generally charge HIGHER interest rates when they have LESS money, and LOWER interest rates when they have MORE money.

• Why do you think they do this?

The Reserve Requirement is the minimum amount of funds banks must keep in their vaults

= LESS money to lend out, so will they charge higher interest rates to us for the money they DO lend out.

= MORE money to lend out, so will they charge lower interest rates to us for the money they lend out.

The Prime Credit Rate is interest the FED charges banks to borrow money

Once banks know how much the FED will charge THEM to borrow money, they decide how much to charge US to borrow (i.e. interest).

Generally, the following rules apply:

= MORE money to lend out, so will they charge lower interest rates to us for the money they lend out.

= LESS money to lend out, so will they charge higher interest rates to us for the money they DO lend out.

Open-market operations is the most successful and often used tool of monetary policy

Buying Bonds Selling Bonds

Money Supply Money Supply

Buying and selling bonds has two different effects on the economy and consumers.

When the Fed BUYS bonds it is PUTTING MORE MONEY INTO the economy.

How will banks respond to this?

By charging us LOWER interest rates!

We will borrow MORE money!

When the Fed SELLS bonds it is TAKING MONEY OUT of the economy.

How will banks respond to this?

By charging us HIGHER interest rates!

We will borrow LESS money!

What should the Fed do if…

Unemployment is 8%GDP is 1.6%Inflation is 2%

STIMULATE THE ECONOMY!

AKA Expansionary Monetary Policy

Unemployment is 4%GDP is 4%Inflation is 4%

SLOW DOWN THE ECONOMY!

AKA Contractionary Monetary Policy

Monetary policy decisionsExpansionary Monetary

Policy:-Decrease the Reserve

Requirement-Decrease the discount

rate-Buy BondsResult: Banks have MORE

money to lend, and consumers have MORE money to spend!

Contractionary Monetary Policy:

-Increase the Reserve Requirement

-Increase the discount rate-Sell bondsResult: Banks have LESS

money to lend, and consumers have LESS money to spend!

Economic Policymaking

1. Who’s in control of our money?2. How does this relate to politics?