Econ 104 1st EditionLecture 26Outline of Last Lecture I. The Money Market II. Shifts in Money Supply and Demand III. Monetary Policy and Recession IV. Monetary Policy and Inflation Outline of Current Lecture II. Challenges of Monetary Policy III. Types of Lags IV. Great Recession Current LectureI. The Challenges of Monetary Policy a. Recognition Lag i. Time between when a significant change in the economy performance occurs and policy makes recognition of it b. Policy Lag i. Time between the recognition of the need for action and when policy adjustment is decided upon is set in motion c. Impact Lag i. The time between policy action and its impact on price, employment, andoutput II. Because of lag and economic forecast uncertainty a. The fed uses an intermediate target to guide day to day operations i. Rationale: if the Fed hits the intermediate target, it will come reasonably close to hitting the final target ii. Currently, the Fed uses an interest rate target. The interest rate target is reliably and predictably related to output and inflation 1. When the Fed changes the target rate, usually other interest rates move in the same direction III. Conclusions of Monetary Policy a. Monetary policy in the case of recession is often referred to as expansionary or simulative policy; and in the case of inflation it is referred to as contractionary b. The FOMC adjusts the level of the money supply to affect interest rates (the federal funds rate)i. Fed increases the money supply and the interest rate falls These notes represent a detailed interpretation of the professor’s lecture. GradeBuddy is best used as a supplement to your own notes, not as a substitute.c. The policy process involves 3 lags:i. Recognition, policy, and impactd. Because of the complexities and lags involved with monetary policy, the Fed usesintermediate targets. Currently the fed targets the interest rate (Fed Funds Rate) IV. Monetary Policy and the Great Recession:a. OMP: to lower (short term) interest ratesi. Interest rates went down to almost zero 1. Did little to stimulate the economy b. WHY?i. Banks: were holding onto ER (excessive reserves) (rather than lending them out)1. Total bank reserves went form $50 billion to $900 billion c. Why were banks holding on to ER? i. Primary reason: Banks hesitated to lend. This is called a credit crunch ii. The Fed started paying interest (.25%) on ERd. How did the Fed stimulate the demand for housing and increase AD?i. Quantitative casing: Fed purchased securities to lower long-term interest rates V. Conclusions about Monetary Policy and the Great Recession a. How do policy makers at the Fed typically respond to recession? i. Lower interest rates b. How did the Fed respond to the Great Recession?i. Targeting long term interest rates c. The Great Recession was “Great” because i. It was proceeded by financial crisisd. Is the US economy back to full employment output?i. No because there is low inflation and a weak number of jobs being created e. Does the Fed control interest rates?i. No f. Why should the Fed be clear about its monetary policy objectivesi. So businesses will know what will
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