Unit 7 Macroeconomics: Taxes, Fiscal, and Monetary Policies Chapters 16.4. Economics Mr. Biggs. Monetary Policy and Macroeconomic Stabilization. Monetarism - The belief that money supply is the most important factor in macroeconomic performance. How Monetary Policy Works
Unit 7 Macroeconomics:
Taxes, Fiscal, and Monetary Policies
Monetarism - The belief that money supply is the most important factor
in macroeconomic performance.
How Monetary Policy Works
Monetary policy alters the supply of money which then affects:
The Money Supply and Interest Rates
When the money supply is low,
interest rates are high.
When the money supply is high,
interest rates are low.
Interest Rates and Spending
Easy money policy - Monetary policy
that increases the money supply by
decreasing the discount interest rate.
It is used to encourage business
Tight money policy - Monetary policy
that reduces the money supply by
increasing the discount interest rate.
It is used to discourage business
investment, slow down the
economy, and minimize inflation.
The Problem of Timing
Monetary policy must be timed carefully
because if they are enacted at the wrong
time, they could actually intensify the
business cycle, rather than smooth it out.
Good timing will lower the peaks
and make the troughs less deep.
This will minimize inflation in
the peaks and the effects of
recessions in the troughs.
Poor data or policy lags can
cause economists to not time
monetary policy properly.
This can actually make the business cycle worse.
There are a couple of problems in the timing
of macroeconomic policy:
Inside lags - Delay in implementing
Inside lags occur for two reasons:
Monetary Policy and Inflation
Given the timing problems of monetary
policy, in some cases it may be wiser to
allow the business cycle to correct itself
rather than run the risk of an ill-timed
policy change (laissez-faire).
On the other hand, if we expect a
recession to last several years, then
a more active policy is recommended.
How Quickly Does the Economy Self-Correct
Economists disagree, but they estimate that the US
economy can self-correct in 2 to 6 years.