Fiscal Policy and the Federal Reserve

Early History The United States government largely adhered to free market practices throughout the 18 th and 19 th century The American economy was marked but rapid growth during this time period, but also periodic sometimes intense downturns, frequently referred to as “panics”; banking was not highly regulated The Great Depression marked a giant shift in the government’s role in the economy beginning with the policies of Hoover and greatly accelerating with the election of FDR FDR’s “new deal” was highly politically controversial at the time, but is a political norm now even if modern economists don’t agree on its actual effects Modern American politicians know they will have a hard time getting re-elected if they are seeing to be ignoring economic problems; “it’s the economy stupid”

Taxing and Spending Policy Fiscal Policy: tool of economic management by which government try to maintain economic stability through taxing and spending policies The annual federal budget is the capstone of fiscal policy, but is only one part of a larger picture Budgets and budget proposals are highly political documents; budgets signal priorities Failure to agree on budgets is increasingly common; govt. shutdowns Rep. Paul Ryan (R-Wisconsin) is regarded as a Republican leader on budgetary policy

Keynesian Theory Economist John Maynard Keynes wrote that in an economic downturn business become cautious and less likely to spend In order to reverse the economic downturn the government should increase its spending to help increase economic activity; this should even include deficit spending Often referred to as “Keynesian Theory” or “Demand Side Economics” Best recent example is the Obama Stimulus Bill Benefits and risks of this economic model?

Supply-Side Supply-side economics: emphasizes the business (supply) side of the economy; cut taxes on business, people, and investment to encourage spending and investment Supply-side economics was a major component of the policies of Presidents Kennedy, Reagan, and Bush 43 In theory the resulting economic growth results in higher tax returns which off sets the temporary loss of tax revenue from cutting the rates Best recent example is the Bush tax cuts of the 2000’s Benefits and risks of this economic model?

Monetary Policy Federal Reserve Act of 1913 created the Federal Reserve System to manage the money supply; major expansion of government power Intended to help smooth out and prevent the “panics” that had been part of American economic history and to better regulate the country’s monetary system Members of the Federal Reserve are appointed by the President and confirmed by the Senate Monetary Policy: managing the economy through manipulation of the amount of money in circulation

How Does Monetary Policy Work Fed has two primary goals: – Maintain stable prices (control inflation) Is inflation bad? Deflation? Stagflation? – Ensure maximum employment and production output What does this mean? – Are these goals always compatible? How are these goals achieved? – Changing the reserve rate – Adjusting Interest Rates Fed can adjust monetary policy more easily than Congress can change fiscal policy in most cases – Impact of Congressional decisions on the Fed? Are they always correct? Elitist institution? Who does the Fed serve? Audits/Ron Paul?