Monetary vs. Fiscal Policy With the Onset

Monetary vs. Fiscal Policy With the onset of the "Great Recession" and its aftermath, U.S. Government institutions unleashed a torrent of fiscal and monetary policy activities designed to forestall an economic calamity. Two years after the official end of the recession in July 2009, fiscal and monetary policy levers are still active in their attempt to jumpstart an economy that has been anemic in its growth rates and slow to add private sector jobs.

Fiscal and monetary policies are critical to engendering an environment in which individuals and business can work, save, and invest and thereby advance the economy in aggregate. Fiscal and Monetary Policy and their Influences "Fiscal policy refers to the government's choices regarding the overall level of government purchases or taxes" (Mankiw, N.G. 2009. P.371); while monetary policy is concerned with "decisions by policy makers regarding the nation's money supply" (Mankiw, N.G. 2009. P.232).

Fiscal policy tools impact the economy in the long-run by "influencing saving, investment, and growth" (Mankiw, N.G. 2009. P.371), and in the short-run by altering "the aggregate demand for goods and services" (Mankiw, N.G. 2009. P.371).While fiscal policy can shift the aggregate supply curve, its foremost use is to directly or indirectly alter the aggregate demand curve. An expansionary fiscal policy which indirectly influences growth might involve a reduction in marginal tax rates in the economy, which would allow individuals to have more disposable and discretionary income.

As such the aggregate demand curve would shift outward and to the right increasing the consumption component of GDP and growing the national income. A direct expansionary fiscal policy influence would involve the government itself increasing its purchases of goods and services, which would lead to an expansion of the government spending component of GDP and an increase in the national income.

Fiscal policy also has utility because of its multiplier effect which can add more than one dollar for each dollar which is spent in direct purchases or though indirect action in the form of tax rate reductions. Contrarily, there can also be a crowding out effect which works to diminish the impact of fiscal policy especially on direct government purchases. Monetary policy also impacts the economy in the long-run and short-run, and can be described in terms of changes in the money supply or changes in the interest rate.

A policy designed to increase the money supply in the economy would effectively "lower the interest rate (cost of borrowing) and increase the quantity of goods and services demanded at any given price level" (Mankiw, N.G. 2009. P.368); as such the aggregate demand curve would shift upward and to the right and GDP would increase. Monetary policy however, must contend with the inflationary effects of policy designed to expand the economy by increasing the money supply.

Monetary and Fiscal Policy Institutions For fiscal policy the government agencies charged with creating and implementing fiscal policy are the U.S. Congress, the President, and the Executive Branch; specifically the U.S. Treasury which "promotes economic growth through policies to support job creation, investment, and economic stability" (U.S. Treasury.gov. 2011) Returning to the previously mentioned expansionary fiscal policy, the Congress might look to enact legislation to continue a one year extension of a reduction in the payroll tax.

The House and Senate would pass the bills and the President would sign or veto such a law. Fiscal policy can often be cumbersome because of the political wrangling which occurs between the parties in Washington. In 2010, a bitter disagreement over the Bush tax cuts culminated in a two-year deal to extend the rates. Fiscal policy often has considerable lag in its impact for just this reason; the time necessary to enact legislation.

Monetary policy is the purview of the Federal Reserve (FED), specifically by "the Federal Open Market Committee (FOMC), which consists of the members of the Board of Governors of the Federal Reserve System and five Reserve Bank presidents" (Federal Reserve.gov. 2011). The Fed is an independent central bank and its decisions are not approved by Congress or the President however, the FED is monitored under Congressional oversight. The FED's has as their dual mandate: price stability and maximum employment, and utilizes there bag of policy tools to achieve these ends.

The FED's arsenal includes: the targeting of the fed funds rate, the discount rate, reserve ratio, and open market operations. Returning to expansionary monetary policy, the FED might wish to increase the money supply and would do so by targeting a reduction in the fed funds rate of 50 basis points. To achieve this, the FED would conduct open market operations by purchasing treasury securities in the marketplace. "These purchases increase the money supply and lowers the equilibrium interest.