Chapter_14_Notes

Chapter_14_Notes - Chapter 14 Notes Chapter 14 Monetary...

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Chapter 14 Notes Chapter 14 Monetary Policy The previous chapters have only briefly mentioned monetary policy as the central bank changing the money supply or interest rates to affect the macroeconomy. This chapter takes a closer look at monetary policy in terms of the central bank’s goals, actions, tools, predicted outcomes of policy, etc. While chapter 13 looked at what the Fed was this chapter wants to look at what the Fed does. What Is Monetary Policy? The Federal Reserve Act was amended as a result of the Great Depression to give the BoG broader responsibility to act “so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates.” Since WWII there has been more active monetary policy by the Fed. Monetary policy is defined as the actions the Federal Reserve takes to manage the money supply and interest rates to pursue its macroeconomic policy objectives. The Goals of Monetary Policy The Fed has four goals that will be discussed in this chapter. 1. Price stability – low and stable inflation Inflation causes uncertainty, complicates decision making and planning, and may lead to lower economic growth. Price stability is increasingly viewed as the main goal of monetary policy. Many economists have argued that if inflation is low in the long run, the Fed will have the flexibility it needs to lessen the impact of recessions. 1
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Chapter 14 Notes 2. High employment High unemployment is the alternative. High unemployment creates misery. It also means there are idle workers and resources in the economy leading to lower GDP. High employment is also a goal for other branches of government, not just the Fed. 3. Economic growth Stable economic growth allows households and firms to accurately plan and it encourages the long-run investment that is needed to sustain economic growth. However, many of the policies to increase growth, such as tax incentives, may be better carried out by Congress and the president. Many believe the most the Fed can contribute to economic growth is by meeting its goals of price stability and high employment. Economic growth is closely related to high employment. If the Fed is pursuing high employment, it is pursuing economic growth. Most economists also believe economic growth is generally slow during periods of high inflation, so by pursuing price stability, the Fed is pursuing economic growth. LRAS/Potential real GDP # workers, technology, capital stock No response to monetary policy 4. Stability of Financial Markets and Institutions When financial markets and institutions are not efficient in matching savers and borrowers, resources are lost. Firms cannot receive funds needed to produce goods and services and consumers also find it harder to obtain loans. The Money Market and the Fed’s Choice of Monetary Policy Targets – don’t draw
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This note was uploaded on 04/27/2010 for the course ECON 2010 taught by Professor Roussel during the Spring '08 term at LSU.

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Chapter_14_Notes - Chapter 14 Notes Chapter 14 Monetary...

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