Monetary vs Fiscal Policy

Monetary Policy

By DEWITT JOHNSON

Fiscal Policy = Government

Government tools:

-Taxes
-Federal Spending

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The government has no power over Monetary Policy.

What we've previously discussed

Control of the Money Supply.

The Money Supply is controlled by the Federal Reserve.

The Government has no control over the Federal Reserve.

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What is Monetary Policy?

1. Buying and Selling Government bonds

2. Raising and lowering interest rates

3. Raising and lowering the Reserve requirement

Monetary Tools

Multiple Choice

Buying and Selling bonds

This is...

• Monetary Policy

• Fiscal Policy

Multiple Choice

Raising Taxes

This is...

• Monetary Policy

• Fiscal Policy

Multiple Choice

Increasing government spending

This is...

• Monetary Policy

• Fiscal Policy

Multiple Choice

Changing interest rates is...

• Monetary Policy

• Fiscal Policy

The two sides of Monetary Policy

-The Fed allows the money supply to grow and interest rates to fall, which normally stimulates the economy.

-This is done during recession.

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Easy money Policy

-The Fed restricts the growth of the money supply, which drives interest rates up.

-When interest rates are high, consumers and businesses borrow and spend less, which slows economic growth.

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Tight money Policy

Multiple Choice

Why is a tight money policy used?

• To increase inflation rates.

• To combat high inflation rates.

• To encourage excessive borrowing.

• To destabilize the economy.

Multiple Choice

Why is an easy money policy used?

• To increase inflation rates.

• To combat high inflation rates.

• To encourage the economy to grow.

• To destabilize the economy.

Reserve Requirement = How much money the bank has to keep in the vault.

-Higher reserve requirement = means less money for loans (tight money policy)

-Lower reserve requirement = means more money for loans (easy money policy)

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Tool 1: Changing the Reserve requirement

Multiple Choice

The economy is falling. The Federal Reserve should shift to an easy money policy. They could do this by...

• Lowering the reserve requirement

• Raising the reserve requirement

• Raising interest rates

• Selling Bonds

Multiple Choice

Inflation is rising. The Federal Reserve should shift to a tight money policy. They could do this by...

• Lowering the reserve requirement

• Raising the reserve requirement

• Lowering interest rates

• Buying Bonds

Interest rates = How much it costs to borrow money.
Ex: Borrowing $100 at 5% interest costs you $5.

-Higher interest rates creates less interest to buy (tight money policy)

-Lower interest rates creates more interest to buy (easy money policy)

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Tool 2: Change interest rates

Multiple Choice

Inflation is rising. The Federal Reserve should shift to a tight money policy. They could do this by...

• Lowering interest rates

• Lowering the reserve requirement

• Raising interest rates

• Buying Bonds

Multiple Choice

The economy is falling. The Federal Reserve should shift to an easy money policy. They could do this by...

• Lowering interest rates

• Raising the reserve requirement

• Raising interest rates

• Selling Bonds

Buy low / Sell High

Tight money policy
When inflation is rising, bonds are sold at higher interest rates.
-This takes money out of banks. Harder to borrow and spend money.

Easy money policy
When the economy is falling, bonds are purchased from whoever owns them.
-This puts money into banks. Easier to borrow and spend money.

Tool 3: Buying / Selling Bonds

Multiple Choice

The economy is falling. The Federal Reserve should shift to an easy money policy. They could do this by...

• Selling Bonds

• Raising the reserve requirement

• Raising interest rates

• Buying Bonds

Multiple Choice

Inflation is rising. The Federal Reserve should shift to a tight money policy. They could do this by...

• Lowering interest rates

• Lowering the reserve requirement

• Sell Bonds

• Buying Bonds