Can we count on monetary policy to effectively stabilize an economy? In other wo
ID: 1177900 • Letter: C
Question
Can we count on monetary policy to effectively stabilize an economy? In other words, are there no limits to monetary policy? Explain.
What policy did the Fed and other central banks around the world use to try to stabilize the economy during the financial crisis ?
Why do we have a central bank - Federal Reserve Bank of the U.S.? Why was it created and what is its main function today?
How does monetary policy influence aggregate demand? Cite a scenario - recession or inflation - and how monetary policy could help stabilize the economy.
What is the difference between a) Federal Reserve's buying vs. selling US government securities - they are both open market operations by the Federal Reserve but what is the intended result of each action - buying vs. selling, and b) reserve requirement vs. discount rate.
Is the independent status of the Federal Reserve Bank a good thing in terms of conducting monetary policy?
Explanation / Answer
Monetary policy is largely about manipulating interest rates to effect the economy. During mild recessions with room to lower interest rates monetary policy can effectively stabilize the business cycle.
However, during deep recessions and when the Fed is stuck at a ZLB (zero lower bound) interest rate (also known as a liquidity trap), then monetary policy become much less effective since the full employment interest becomes negative. Having negative interest rates is virtually impossible.
This is what we are experiencing now and explains why the Fed is practicing unorthodox methods, such as QE. During these times, monetary policy has to be accommodated by fiscal policy in order to stabilize the business cycle.
The U.S. central banking system, the Federal Reserve, in partnership with central banks around the world, took several steps to address the subprime mortgage crisis.
Broadly, the Federal Reserve response has followed two tracks: efforts to support market liquidity and functioning and the pursuit of our macroeconomic objectives through monetary policy.
the following policies were adopted:
1.Expansion of Fed Balance Sheet ("Credit easing")
2.Mortgage lending rules
3.Open market operations
4.Term Auction Facility (TAF)
5.Dollar Swap Lines
The Federal Reserve was created by Congress in 1913, and has four components:
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