Fiscal and Monetary Policy

Key Terms Review Federal Reserve (the Fed): the central bank of the U.S. that monitors and stabilizes the economy Inflation: the rate at which the general prices of goods are rising Aggregate demand: the total demand for goods and services in the economy at any time

Stabilization Policy Recession: Inflation: Think of the government and the Fed as doctors of the economy. They keep track of vital signs [Inflation, unemployment, etc]. If a problem arises, they step in to prescribe a remedy. Recession: The patient is suffering from unemployment [need to jumpstart him] Inflation: The patient is suffering from inflation [need to cool him down]

Fiscal Policy The use of government spending and revenue collection to influence the economy.

Fiscal Policy Includes: Actions take by the Federal Government: Laws passed by the President or Congress Tax Policies: how revenue is collected Any policies regarding government spending: how revenue is spent

Things the federal government HAS to spend money on Fiscal Policy: Mandatory vs Discretionary Spending Mandatory Spending Things the federal government HAS to spend money on ALWAYS included in the budget

Discretionary Spending Fiscal Policy: Mandatory vs Discretionary Spending Discretionary Spending Anything else where Congress decides where and how much money to spend on things Deliberate choice and use of federal funds

Examples 1.Welfare & food stamps 1.Defense/Military 2. Research Discretionary Spending Mandatory Spending 1.Welfare & food stamps 2. Medicaid 3. Retirement for federal employees 4. Social Security Unempl. check 1.Defense/Military 2. Research 3. Foreign Aid 4. NASA 5.Transportation 6. And much more!

Where Revenues are SPENT Social Security [20%] Interest[6%] Defense [19%] Medicaid [8%] Medicare [13%] Welfare Unemployment [16%]

Monetary Policy “Monetary Policy” refers to the actions that the Fed takes to influence the money supply and the rate of inflation in the economy.

Monetary Policy Includes: The Federal Reserve Bank controls/sets the interest rate that banks can borrow and loan money (both the Fed and to each other) The Fed can use the interest rate to try and control inflation and unemployment

Monetary Policy How does the interest rate effect the economy? The lower the interest rate i, the more money banks will borrow and loan, which leads to more money in the economy More money = bigger economy = less unemployment

Monetary Policy BUT, if the economy get TOO big, there will also be inflation! (the general prices of goods will rise!)

Monetary Policy How does the interest rate effect the economy? The higher the interest rate h, the less money banks will borrow and loan, which leads to less money in the economy Less money = smaller economy = brings down inflation

Monetary Policy If high interest rates hold the economy back too much, the economy will enter a recession which will lead to higher unemployment!

Monetary Policy It’s a balancing act! The Fed must raise and lower interest rates according to the current conditions of the U.S. economy