Free «Monetary and Fiscal Policies» Essay Sample


Monetary and fiscal policies implementation in the United States exacerbated macroeconomic attempts to deal with the escalating challenges of recession. Recession refers to a period of dwindling economic activity affecting all realms of the economy and touted to continue for more than a few months. Recession tampers with employment, industrial production, real income, wholesale-retails sales and its impacts are enormous on the GDP (Hertzel, 2009). The great recession hit the United States from 2007 affecting gross domestic production, industrial production, employment, spending power and home ownerships in the form of mortgages. Indeed, the latter was the major causes with many people fearing lose of homes whilst banking hung in huge debts it had been unable to recover from people owed.

The monetary policy is associated with the monetary authorities of a nation and emanates from the injection of funds into the economy. Monetary policy controls the supply by targeting the interest rates; thus promoting stability and growth. The ensuing results are stable consumer goods and service pricing and low unemployment rates (Nelson, 2007). Monetary policy could either be expansionary; meaning increased money supply in a rapid rate. This injection combats unemployment through its lowering of interest's rates and envisions a teasing welcome to business growth (Hertzel, 2009). Contractionary policy either shrinks money supply or ensures the rate of money injection is slow. It in turn deals with inflation; slowing its rate thus avoids distortion and deterioration of asset values.

Fiscal policy is the contrast of monetary policy. It focuses on the role of the government in a recession and encompasses taxation, government spending and associated borrowing. The eventual target is to gain control over the business cycle and attain full employment, price stability and sustained economic growth. Fiscal policy borrows heavily from Maynard Keynes and asserts that insufficient demand leads to unemployment whilst excessive demand ushers inflation in. Fiscal policing is aimed at stimulating demand and output in declining economies and pushes up government spending. Eventually, through cutting taxes, it releases disposable income meaning more spending power and the reverse corrects overexpansion.

The two policies; read, monetary and fiscal, are administered independently. Subsequently, the factors that elicit monetary control and those that revolve around the government's arm are construed in singularity (Kuttner, 2010). This is because though they protract similar results, they are diverse in how they are administered. Importantly though, the two policies impact by the same magnitude in economic control as envisaged in the turnover of money in the economy.

Policies and Their Effects

Fiscal policy tool

The economy is hinged on stability and sustenance of employment levels of its populace, a trait the government sought to achieve by tax reductions. Reduction of income taxes means that the unemployment rates drop significantly and thus is a leeway for stability and increased industrial and economic output. The adoption of this policy by the government meant that healthy business ethics and sanity was installed into otherwise turbulent business arena (Nelson, 2007). This was a positive for businesses as well as employers; eventually affecting the turnover and stabilizing it. With the panic caused by the recession, optimism ought to be evoked to instigate purchases which in turn impact hugely on the commerce. Though it is very difficult to handle the initial challenges and strike the perfect balance, reduction of taxation evoked an understanding of the wills of the populace.  

The effects of tax reduction were supposed to alleviate the unemployment issue not only in the short run but also in the long run. However, by imposing tax cuts raised the issue of sustainability of government's performance and service delivery. Governments rely on revenues from taxes to smoothly deliver services to the citizens (Kuttner, 2010). The plausibility of reduced taxation rates during the recession time is unquestionable, but the long term sustainability of the low rates, especially after the economy recovers should be an area of concern (Hertzel, 2009). However, the move was meant to stimulate the workforce, instill in the workforce more appetite for income and financial independence. Thus, arguing that fiscal policing accelerated production and in the long term established a hard working and sensible-spending populace would not be far from the mark.

The fiscal policies encompassed as well cuts in government spending and borrowing from persons of good will. Recessions shift financial focus to the unemployed and the welfare of the financially unstable. Reduction of taxes provided the government with an opportunity to address the issue of the unemployed as well as the vulnerable groups, whilst offering a susceptible route to robust economic growth (Kuttner, 2010). This meant a shift from the concerns of the general public to more specific objectives and thus the initiation of the health care system which drastically addressed the issue of health and wellness to many members of the society (Hertzel, 2009). In turn, with the government catering for health needs, much more money and concentration is expended to assist those unemployed and newcomers entering welfare. This is thus replicated in more consumption by goods and services consumers, creation of business opportunities and expansion of existing businesses. This in turn means more successful businesses, and integration of philanthropic and charitable offers into the efforts to alleviate the declining economy. The offers for return of houses purchased on mortgage helped alleviate the economic situation but left issues of housing that ought to be tackled in the long-run.

Monetary policy tools

The main focus of monetary policing is the money flowing in the economy. The backing down of consumers and businesses on spending ventures doesn't mean that money wont flow into the economy as insurance, Social Security payments and larger government at the federal, state and local levels ensures continued money flow into the economy. In addition, the monetary authority establishes means to trigger the injection of monies into the economy in a controlled manner.  The main aim is to spur an acceleration of the economic activity, eventually positively fostering economic growth and alleviating the dangerous impacts of recession on the economy.

The adopted policies revolve around the $787 billion stimulus bill passed by the congress in February. The adoption of new lending programs never explored before by the Federal Reserve was another policy aimed at straightening the ills of the economy. The primary tool that the Fed used early during the current crisis was to cut the Federal Funds rate.  The Fed had raised rates to 5.25% in June 2006 and were drastically reduced to the current target range of 0% to 0.25% (Ambekar, 2009). Initially the Fed relied on rate cuts to heal the damage in the financial markets but the failure to deal initially the Fed relied on rate cuts to heal the damage in the financial markets; but by late 2008 it became clear that financial markets were not responding rapidly to the rate cuts and so the Fed took further measures.

The effects of the monetary policies on the short run meant that the populace had little to worry about. However, it did tremendously impact on the global money market. With the dollar gaining stability, the economy and the GDP of USA was secure. The policies provided a linchpin for economic prosperity, meaning dealing with the weaknesses of the economy whereas projecting an assured future for the American economy. This though did not come without negatives as key sectors were hit hard, especially the housing and mortgage sectors which had to continually strive to stay aloft despite the raging efforts to save the sectors.

Under normal circumstances the Fed conducts open market operations by buying and selling short-term Treasury instruments, but in December 2008 they widened the range of securities to include agency and mortgage-backed bonds (bonds issued by institutions such as Fannie Mae and Freddie Mac that buy mortgages from banks, put them together in a package and then resell the package to investors) (Rothbard, 2009).  The Fed's goal in buying this paper was to improve conditions in the mortgage market.  The mechanism is as follows: Fannie and Freddie buy mortgages from banks and resell them to investors; the higher the price that investors are willing to pay, the lower the rate that a person taking out a mortgage will have to pay.  If buyers are reluctant to buy Fannie and Freddie paper than people who want to get mortgages will pay higher rates; but if the Fed aggressively buys this paper, then mortgage rates will come down.  So the Fed was trying to lower mortgage rates through its actions. This meant even more immediate difficulties for willing home buyers. In addition, it meant escalating housing prices and the unwillingness to invest in mortgages. Visionary though, the move scored highly because it gave the housing industry a chance to grow and stabilize in the forthcoming days.

Classical versus Keynesian macroeconomists

The overall point of view (which defines macroeconomics) examines the overall pattern of the economy. Classical economists harbor the view that the economy in itself would adjust without the intervention while Keynesians were privy of the idea of government intervention in the economic problems. Regarding the levels of unemployment, the two differ. Classical economists attribute unemployment to excess supply caused by high price level of labor. The supply pushes the wages demands to very high levels as dictated by the social and political forces Classical economists also argue that all money is always in the economy, because even when people put their income away in the form of savings in banks, stocks, etc. that money still flows back into the economy in the form of investment (Patil, 2010). When savings money flows into banks, even though it does not directly go to the industries in the form of purchases, banks loan this money to industries to invest in further development (Ambekar, 2009). Investment takes the form of money to acquire new machines, labor, facilities, etc. so that businesses grow.

Keynesians believe that if economy would be left alone, it would strike a balance and all willing labor would be engaged. In Keynes's analysis of the economy, he looked at the problems of supply and demand separately. The problem of supply is relatively simple: supply generates income. What people make are bought, and thus the value of supply is always equal to the value of income. This income is then passed on to the consumers in the form of paychecks. The consumers then spend this money to buy various products. Keynesian economics have several concepts to explain how consumers spend their income. The money that people get are always split between consumption and savings. People who have enough money usually save some of it and spend most of it

The two schools of thought came to a test during the great recession. Whilst Americans were worried, policy makers were sweating trying to find a solution to the dwindling fortunes of the economy. This can obviously be based on the Keynesian movement and the eventual actions which saw the government take an active role indicate the interrelationship between the social and political factors with economic orientations. Economy is not independent entity. Therefore, the stimulus packages indicated a dismissal of the classical movements and its relative thoughts. However, the reduced purchasing trends and the high rates of savings are informed by the Keynesians. Therefore, none of the movements can be discounted for the invaluable contribution it generated during the Great Recession.

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A common adage is that when America coughs all the world catches the sneeze. The effects of the Great recession were experienced world wide, probably emphasizing the position of America as a super power. The short term effects of the policies had impacts within the America whilst in developing the policies, macroeconomists had to beware of the effects it cold have on other major world economies. Since the Great Depression, macroeconomic strategists ought to be applauded especially for the exemplary efforts to ensure that the recession doesn't turn into a depression as many speculated.


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