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Unformatted text preview: ending and to help cool off the economy. Conversely, when the economy showed signs of slipping into recession, monetary policy aimed at lowering interest rates to encourage spending and to forestall the downturn. A MISLEADING INDICATOR
Toward the end of the 1960s, the Fed came to realize that interest rates often could be misleading indicators. Rising interest rates, for example, could be symptoms of strong credit demands fueled by a robust economy, or of rising inflation premiums as inflation began to heat up. In such cases, interpreting rising rates as signs of a restrictive monetary policy would be incorrect because they, in fact, would be signs that policy was inflationary. Similarly, falling interest rates could be symptoms of a weakening economy, not an expansionary monetary policy. MONETARY TARGETING
Because interest rates can give misleading signals, the Federal Reserve began in the early 1970's to target monetary growth and to place less emphasis on interest rates as
2-26 Licensing School for Appraisal, CPA, Contractors, Insurance, Real Estate, Notary, Nurse, Food Handlers, Tax and Securities 2. THE MONEY MARKET
indicators of monetary policy. The System was concerned that if monetary policy relied predominantly on a simple interpretation of interest rate behavior, it could mistakenly aim in the wrong direction. That is, it could stay expansionary too long after an economic recovery began to turn into an inflation or remain too restrictive when the economy was in a downturn. The Federal Reserve wanted to avoid policies that might turn out to be pro–cyclical, reinforcing rather than moderating business cycle fluctuations. FUNDS RATE OPERATING PROCEDURE
This did not mean that interest rates totally disappeared from the picture. The Federal Reserve continued to focus on interest rates, but as an instrument for controlling money growth rather than as an indicator of policy. Specifically it used interest rates to influence the public's demand for cash balances (see “The Demand For Money”, following) and in that way affect the quantity of money out–standing. Higher market...
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This note was uploaded on 12/30/2010 for the course SOC 101 taught by Professor Zhung during the Spring '10 term at Punjab Engineering College.
- Spring '10