Capitalist economies experience business cycles. Over the past 50 or so years go

Question

Capitalist economies experience business cycles. Over the past 50 or so years governments have been able to moderate these business cycles and keep price instability and unemployment at a minimum relative to the 1800s and early 1900s. There are two policy methods that the government can use: fiscal (Treasury Dept. and Congress) and monetary (Federal Reserve). How do these two policy methods work, what are the differences between them, what does the concept of scarcity or lack thereof have to do with the effectiveness of each and which one is more effective at controlling price instability and unemployment? Your answer should include why there is a need for government intervention in the first place (i.e. if the markets are self-correcting in reality there should be no need for government help), the process of both policies (meaning what steps are involved if any and how money gets into the hands of consumers and firms) and the theories behind them (demand-driven economy or supply-driven economy).

Explanation / Answer

Fed decides its monetary policy and use open market operation as its tools to control money market, Therefore through monetary policy, a central bank can affect the demand in the economy, but it has no power to affect the supply. When growth falls, the central bank may reduce the repo rate. As this monetary signal works its way through the economy, the rates for all sorts of loans fall.

While in fiscal policy governments can influence macroeconomic productivity levels by increasing or decreasing tax levels and public spending.

To control price instability, monetary policy is more effective but in case of unemployment, fiscal policy is more effective.

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