Sg32 - Chapter 16 MONETARY POLICY Key Concepts Instruments Goals Targets and the Feds Performance The instruments of monetary policy are open

Info iconThis preview shows pages 1–2. Sign up to view the full content.

View Full Document Right Arrow Icon
231 16 MONETARY POLICY* Key Concepts ± Instruments, Goals, Targets, and the Fed’s Performance * The instruments of monetary policy are open market operations, the discount rate, and required reserve ratios. The primary goal of monetary policy is to maintain price level stability. Secondary goals are to keep real GDP as close as possible to potential GDP and help maintain sustainable real GDP growth. Possible intermediate targets are monetary aggre- gates, such as the monetary base, M1, or M2, and the federal funds rate. The Fed targets the federal funds rate. Price level stability is the primary goal of monetary policy because the economy works best when the price level is stable and predictable. Because of bias in meas- uring the price level, a low inflation rate is considered equivalent to price level stability. Monetary policy can help avoid fluctuations around potential GDP, though some economists contend that it creates fluctuations. The Fed faced shocks that raised the price level during the 1970s and 1980s. The growth rate of the quantity of money remained high throughout the 1970s before slowing after 1980. It rose again during the late 1990s. Monetary policy, whether measured by the growth rate of M2 or short-term interest rates, generally is expan- sionary before a presidential election and contraction- ary afterward. The two exceptions involved the failed reelection bids of Jimmy Carter and George Bush. * * This is Chapter 32 in Economics . Because of the price shocks and the Fed’s policy of rapid monetary growth, between 1973 and 1983 the inflation rate was high. In addition, real GDP was be- low potential GDP. Between 1984 to 1993, the infla- tion rate fell and real GDP was closer to potential GDP. Between 1994 and 2003, the inflation rate was low and real GDP was close to potential GDP. ± Achieving Price Level Stability Monetary policies fall into three categories: Fixed-rule policies — specifies an action to be pursued that is independent of the state of the economy. Feedback-rule policies — specifies how policy actions respond to the state of the economy. Discretionary policies —responds to the state of the economy in a possibly unique way that uses all the information available. Discretionary policy is a type of sophisticated feedback-rule policy. Fixed and feedback rules react differently to aggregate demand shocks. In response to a decrease in aggregate demand: A monetarist fixed rule says, “Do nothing.” (Monetarists are economists who think fluctua- tions in the quantity of money are the main source of economic fluctuations.) This policy allows ag- gregate demand to decrease, leading to a decrease in real GDP and a fall in the price level. If the de- crease in aggregate demand is temporary, eventu- ally aggregate demand returns to its initial level and real GDP returns to potential GDP. Feedback rules try to counter the swings in aggre-
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Image of page 2
This is the end of the preview. Sign up to access the rest of the document.

This note was uploaded on 05/13/2010 for the course ECON 323 taught by Professor Jakes during the Spring '10 term at Alcorn State.

Page1 / 16

Sg32 - Chapter 16 MONETARY POLICY Key Concepts Instruments Goals Targets and the Feds Performance The instruments of monetary policy are open

This preview shows document pages 1 - 2. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online