According to the Wall Street Journal, the current Fed’s Fund rate target is 0% – .25%, the discount rate target is .50%, the Feds opinion on current economic conditions is: “contraction is slowing”, estimates on unemployment stand between 9% -10%, CPI 0% – -1.3%, and GDP -5.7%.
If you were given the task of making recommendations to the Federal Reserve regarding monetary policy under the current economic conditions, what tools would you recommend and why? Feel free to use the money supply graphs to express your opinion. Also, think in terms of setting interest rates and bank reserves, and FOMC transactions.
This situation appears to be gloomy. However, the struggle to stimulate the economy to grow GDP and harness inflation even though the core inflationary rate is moving towards a dangerously low number is needed and necessary.
Looking at this scenario from the perspective of not knowing the other world information that influences the scenario proposed in this blog. My recommendation would be as follows:
The current situation has shifted the money supply downward and to the left, leaving the availability of cash circulating lower than needed for future investment and to stimulate the economy which in turn increases opportunity for employment and growth in GDP and CPI. The movement needed to this shift would be upward and to the right.
I suggest a relatively aggressive yet in my opinion simple action that would share some of the risk and possible increase inflation on a short term to grow and stimulate the economy and give some room for adjustment more than we currently have with a 0% interest rate. I would recommend in the following order:
1.) Lower the bank reserves however, as I see from doing a little research this actually can’t be done (I will address this later). But for the purpose of this entry just lowering it will release some cash flow driving up the available cash for lending. This will theoretically shift the curve upward to the right. I do not believe it will be quite enough to shift the curve to where it needs to be.
2.) Increase the Fed interest to .25% this may, or will, return the curve slightly back downward to the left, however I do not believe it will be to damaging in the perfect world (which is the assumption). I do also believe it gives the Fed the opportunity to lower or raise based on what happens with the following recommendation and puts some of the risk back on the banks from the previous recommendation.
3.) Buy back a number of the current treasury bonds, increasing the cash available to the system to basically slingshot the available cash to the private sector and available to banks for lending. Which, will shift the curve upward to the right and can be estimated more closely to what is needed for a balanced GDP.
The above scenario is idealistic and a simplified answer to the question. Upon further reading and some quick Internet searches there are many factors that have made me realize the saying “if it where only that simple” means a lot in the world of economics.
The options that are currently available in my opinion are just what Dr. Bernanke is recommending: the purchase and recall of treasury bonds reducing the federal deficit and the rising yields (or interest rates), in this article which was his testimony before congress explains the complexity of this, http://online.wsj.com/article/SB124403584900281215.html
The set bank reserves are currently set at 10% and due to loop holes established in banking guidelines established by the Federal Reserve, the reserves are actually lower than even what the law allows. It would take an act of congress to bring it to a level lower than 8% Here is a link to an interesting opinion: http://www.marketskeptics.com/2009/03/us-banks-operate-without-reserve.html this might explain some of the reasons that they never lower this rate.
The current interest rate of the Fed is 0% it cannot be lowered, to move into a – % rate would bankrupt the country, create inflation in a magnitude that we have never seen. So, this can’t and wouldn’t even be considered.
Therefore, I believe the only option for the Federal Reserve is as mentioned above is to work from the position of the FOMC and buy back Treasury issued bonds and get the money moving again, there is no room in the other two options that can even be considered.
I agree with the above plan as well. I think in order to stimulate the economy we need spending to happen not only on the public level but the federal level as well. We should buy back stocks/bonds and other financial investments to get money circulating as well as spending to create jobs which would in turn create even more money circulation and boost the economy. In order to stimulate the economy we need cooperation by the public as well. As hard as it is to say people need to be less afraid and go out and spend money to keep helping the economy without government intervention so the govt. can do even less when they do feel they “need” to intervene.
To really look at the underlying issue we have to look back a few years. Things were going great not long ago. I think we need to raise the Fed Fund rate to %5. The rate was this high in 2006 and things were just fine then. This might shift the curve slightly downward to the left (due to scared investors). However, my calculations expect things to turn around very fast. Especially if we buy up these Treasury bonds.
NDN1’s plans sound good. In my opinion, the Fed needs to keep spending and the consumer needs to help in the process to boost the economy. I think the Feb can’t do anything about the bank reserve level because it is 0% now. They can’t go below that. If it goes to -%, then the country will experience inflation, which creates another problem. So we would not consider that method. I believe the only option that the Feb should consider is the open market operations. FOMC should buy back the existing bonds and spend the money in many possible ways.
“NDN1″ has clearly done a good deal of reasearch on this topic, and has given me a better understanding of what we can do to help. Everyone is so worried about the failing economy that they have become frantic about not over spending. It is wise of citizens to focus on saving money, but what alot of people do not understand is that inorder to boost the incomony, we need to increase spending, both federally and locally. The best idea for the Fed is to focus on the market operations. They need to buy back bonds and spend that money, as well as promote the markets so that citzens feel more comfortable spending their own money.
I agree with ndn1. I think the fed needs to buy back bonds and put more money into the bank reserves. I think intrest rates should go back up slowly.
NDN1….I concur.
Increase money supply in hopes to stimulate economy to increase lendable funds to create jobs which will in turn decrease debt due to higher productivity and less unemployment benefits being doled out. More working people = more working people buying more stuff = happy. Reform medicare and social security programs. Cut frivolous government spending on silly programs.
NDN1 great job! I also agree with you. Banks need money and the one good tool would be too buy some bonds back to the banks. The banks need money to lend. If banks can lend money then other companys wont be hurting so badly! If this happens interest rates will start to raise!
NDN1 has pretty much said it all…i definitely agree with you. The fed needs to put more money into the bank reserves..what denofearth said about more working people, leads to more money being spent will basically help out the economy a ton.
I couldn’t help but read NDN1’s comment when I first clicked onto this page. I do have a feeling that if the Federal Interest is .25, it is not going to stay that long. If the bonds are bought back, the interest rates will raise, but how long would it take?
im really not shore what any of that means, thats why i am in this class.
but i have been playing with this forextrader game online and i seem to be doing ok at it i collect 200,000 $ in divedends in the past hour. im sorry if none of this is relavent but i really have no clue whats a monetary plan is.
i think that for the economy to get better we have to spend money to put revenue back into the businesses so we can have a demand for jobs. i hope that was ok.
people are holding on tight to there wallets and pocketbooks after years of uncontrolled spending.the usa is at a high on savinging this year. people are thinking twice about there purchases,wants and needs are big concern,just what can the do without and what they really need is playing a very big part in this economy. with people holding on tight to there money i think it will be a long time before people get caught with there pants down again as they did this last year. it going to be sometime before consumers feel the worst has past…got luck america we are going to need it………
.The kind of impact middle income americans will have on the u.s economy going foward is more supply over demand,unemployment rates likely to go up which may also affect the economy cause people buy less and do more with what they have,people hours been cut out from work due to the fact the economy is bad which affects their spending which also affects the economy.
my point is this the more people have the more they spend the less they have the less they spend.