Federal Reserve and the Current Term Paper

  • Length: 8 pages
  • Sources: 4
  • Subject: Economics
  • Type: Term Paper
  • Paper: #67628849

Excerpt from Term Paper :



The Federal reserve realized the big negative impact of MBS and announced a 600 billion program in November 2008 to purchase these securities and this helped to bring back some liquidity into the market. In March 2009, it added another $750 billion to bring the total to $1.25 trillion.

The Fed has the power to create or print more money to increase money supply in the market and this is exactly what it did. Though the downside of this measure is inflation and an increased balance sheet for the Fed, Ben Bernanke, the chairman of the Federal Reserve felt it was imperative to boost the economy. Through this tool, the Fed generated money and provided it to large corporations that depend on loans to ensure that their growth was not drastically affected. The Fed executed this policy through the lending institutions to increase economic activity and the dependent employment numbers.

It announced other monetary programs to increase money supply in the market. One such program was the Term Auction Loan Facility (TALF). This program aimed to provide short-term liquidity to banks so that they can lend to households and small businesses. In 2009, it increased the number of banks that can use this program and also expanded its list of collateral so that more financial institutions can participate in it. Another program is the dollar swap lines that made it possible for foreign central banks to prevent disruptions in the value of dollar abroad. The Federal Reserve also came up with another program called the Primary Dealer Credit Facility (PDCF) after the collapse of Bear Sterns to provide overnight loans in cash to primary dealers against some form of eligible security (federalreserve.gov, 2012).

Strengths and weaknesses of monetary policy over fiscal policy

Both monetary policy and fiscal policy are important for a strong economy. However, there are certain areas in which their effectiveness varies. Monetary policy provides a quick short-term solution to credit problems that can stagnate the economy. A good case in point is the current economic recession. The numerous monetary policies undertaken by the Federal Reserve eased the credit availability and helped the banks to increase their lending to individuals and businesses. On the other hand, extended monetary policies can have a negative impact. For example, the Japanese economy has a zero-interest rate for a long time and this has not helped to boost the economy in a big way. Monetary policies are not effective in increasing consumer spending, especially when the economy is facing a prolonged period of deflation. In such a case, only a fiscal policy will help to boost the economy and increase spending.

Fiscal policies have their share of weaknesses too. These policies mostly revolve around government spending and increased taxation and over a long period of time, it can be detrimental to the economy. Firstly, government spending can spiral out of proportion and it may not be matched by the growth of the economy. This is exactly what is happening in countries like Greece and Spain where the government debt is way more than what the economy can sustain. Another problem with extended fiscal policy is that people are likely to alter their behavior including their spending patterns in anticipation of the effects of the fiscal policy. For example, when the government borrows extensively, the public will expect the taxation rates to go up after a while and they will make provisions for it by decreasing their spending and increasing their saving potential. This results in overall sluggishness of the economy. Therefore, both the policies have to be used in tandem for best results because each has their share of strengths and weaknesses.

Effects of Federal Reserve's actions

The aggregate demand and supply model helps to analyze the conditions that affect the Gross Domestic Product (GDP) after adjusting it for inflation. The different monetary tools and programs undertaken by the Federal Reserve has produced moderate results. The good aspect is that it has prevented the country from a further economic decline and a possible depression. The easing of credit has helped to jump start the economy and it is on its way to a slow recovery. Moreover, the employment rates are ticking up as also the GDP and other sectors of the economy such as manufacturing and retail. All this is good news for investors and the American public.

The latest Beige Book was published on April 11, 2012 and this book contains the major indicators that show how the economy is faring as a result of the actions taken by the Federal Reserve (federalreserve.gov, 2012). The current unemployment rate stands at 8.1% as of April 2012, according to the Bureau of Labor Statistics (2012). This is a slight decrease from the rates in March 2012 that stood at 8.2%. Non-farm employment rose by 115,000 jobs in April and 12.5 million are still unemployed. Employment in business and professional services increased and since September 2009, more than 1.5 million jobs have been added to this segment. Retail, health care, manufacturing, hospitality and other major industries also added more people to their payroll (BLS, 2012).

The Gross Domestic Product (GDP) is a measure of the value of goods and services produced in the country and is an indicator of a strong economy. The GDP of the fourth quarter of 2011 rose by 3% and this shows that the economy is on the upward path. Manufacturing and retail industries have picked up during the last few months and are showing positive signs. All these factors indicate the U.S. economy is undergoing a period of economic growth, thanks to the efforts taken by the Federal Reserve and the federal government (federalreserve.gov, 2012).

Despite all these good numbers, there is still a good amount of weakness in the economy. It is growing slower than what most people expected and the unemployment rates are on the higher side. The real estate market is not out of problems and foreclosures are continuing to take place across the country. The demand for goods and services is also slow to pick up, especially the sale of large cars because of the increased gas prices. External factors such as the crisis in Europe and the inflation in developing countries such as India and China are threatening to rock the boat.

Also, the Fed can only speed up the economy a little bit by increasing money supply. This is likely to give more money in the hands of consumers that can lead to a higher amount of goods and services consumed. but, there are limits on what the Fed can do to boost economic activity. Most of the effects are only in the short-term and in the long-term, the economy has to adjust for itself (Croushore, 2006).

Conclusion

The Federal Reserve has played a central role in bringing the country out of the current financial crisis. A mix of good monetary policies and cash injection has stabilized the economy and has prevent a further down slide. There is more confidence and optimism in the country today and jobs are inching up, albeit at a slower rate. Overall, the economy is on the path of recovery and this can be attributed mainly to the measures taken by the Federal Reserve. It has fully utilized its role as the central bank of the country and has provided the necessary impetus to boost the economy in a big way.

References

Spriggs, William; (June 2006). Getting to Know the Nation's Central Bank. Crisis. Vol 113(4). pp17-19.

Board of Governors of the Federal Reserve System. (2012). Retrieved from: federalreserve.org

Bureau of Labor Statistics. (2012). Retrieved from: http://www.bls.gov

No author. (June 8,…

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