Fed Faced With a Long-Term

Fed

Faced with a long-term slowdown in economic growth and persistently-high unemployment, the Federal Reserve has undertaken some unusual tactics in order to try to spur the economy. These seldom-used actions were forced because interest rates are already near the zero bound, leaving the Fed's more conventional stimulus options unavailable. One unusual tactic is the widely-publicized multiple rounds of "quantitative easing," where the Fed "changes the composition and/or size of its balance sheet to ease liquidity or credit conditions" (Blinder, 2010). This strategy involved buying back longer term bonds in order to pump liquidity into the banking system. The normal monetary policy strategy is to buy or sell short-term treasuries to manage liquidity; the move to do this with long-term treasuries. This "pushes down long-term rates by shrinking term premiums" (Ibid). Quantitative easing is considered to be less reliable as a means of spurring an ailing economy, and is not as powerful as more traditional mechanisms such as changing the overnight rate. However, in recent years the overnight night rate has been near zero, leaving no room for that policy lever. Having already engaged in open market transactions with short-term treasuries, the Fed adopted the quantitative easing tactic to lower long-term rates. By lowering the term premium, more short-term investment is encouraged.

Another policy lever the Fed has adopted recently is to begin a new program of purchases of mortgage-backed securities. The Fed also noted that it intends to keep this program until the unemployment rate has lowered past a certain point. The former strategy is another form of stimulus monetary policy, but with another different asset type. These asset purchases are intended to lower long-term interest rates and spur consumer spending. With lower rates, the Fed hopes to generate spending on new cars, housing and consumer durables (Yellen, 2013). The Fed rate guidance serves as a buffer against criticism of its programs. Past efforts to infuse money into the economy were met with criticism that they would lead to high rates of inflation (Aversa, 2010). While that inflation never materialized, the Fed felt that offering specific guidance for raising the Fed funds rate and ending its asset purchases would give confidence to the markets that the Fed would not preside over an inflationary bubble (Yellen, 2013).

3. The country that I have chosen is South Africa. Absolute advantage is a situation when a country has an advantage in producing an item; comparative advantage reflects a situation when a country does not have absolute advantage but on the balance of trade should produce that good anyway. Compared with the United States, South Africa has absolute advantages in some mineral production, but mainly in the cost of labor. A combination of high levels of unemployment and a weak rand (9.05 to the USD) make South Africa's labor costs substantially lower -- even educated, middle class South Africans earn less than their American counterparts. South Africa has a comparative advantage in some manufacturing and service industries, however. It might not be cheaper than some Asian nations, but it has good technological and managerial capabilities that could give it comparative advantage in a number of light manufacturing and resources industries.