U.S. Fiscal and Monetary Policy
Fiscal policy
Fiscal policy denotes the use of government spending and taxation in order to steer the economy to the desired direction at a point in time. There are two types of fiscal policies, and they include the contractionary and the expansionary fiscal policies. In contractionary fiscal policies, the government enacts policies aimed at reducing the production in the economy. These could entail an increase in tax and lowering the government expenditure in the economy. On the other hand, the expansionary fiscal policies entail the policies adopted by the government with a view of increasing the overall output in the economy. They include an increase in government expenditure (on goods and services e.g. defense, social security, and employee salaries) as well as the lowering of taxes in the economy (Masson 181).
In the US economy, the fiscal policies enacted involve the cuts on government spending on entitlements and defense. During the start of the Obama regime, expansionary fiscal policies were used in order to try and eliminate the great recession that prevailed in the economy. By the end of the 2014 fiscal year, a total of $7 trillion had been added in order to stimulate the economic growth. Also, at first, there was a huge spending on the military budget. Through the economic stimulus act, jobs have been created, and this is through improvement in the infrastructure and employment levels. TARP (Trouble Asset Relief Program) has also been used to elevate the positions of the homeowners who were stuck with mortgages and also help stabilize the financial system in the economy.
There has been an increase on the government allocations on health through the Affordable care Act. It was aimed at providing health insurance to enable many people get preventive health care and ultimately reduce the costs on healthcare over time. Also, in January 2014, the current administration brought the increase in federal minimum wage. This indicates an increase in the government expenditure on salaries and this is meant to increase the purchasing power of the people consequently steering the economy to greater heights. There has been a cut on the wasteful, obsolete government programs so as to engage in programs that make financial sense. Also, the government has called for an end to subsidies in the gas and oil companies that are currently recording high profits so as to channel the funds in other productive areas of the economy. The impacts of the fiscal measures can be illustrated in the diagrams below.
Effect on wealth
Since the supply of money is held constant, there is increased wealth level the in the US economy. Due to a reduced price level, the money’s purchasing power increases and the people become wealthier since they can obtain more goods and services in relation to the previous amounts and consequently increase the real GDP. It is shown by the total demand curve in the diagram below. It shifts of the aggregate demand curve from the economy to the right i.e. AD0 to AD1.
Interest rate effect
Increase in price levels makes the US households and firms need excess reserves of money in order to cater for their transactions. With a fixed money supply maintained, the increased money demand increases the rates of interest and reduces the level of expenditure on goods and services that are sensitive to interest rates. It is the case in the US economy, and it has affected the drop in the real GDP. The converse is valid.
Net exports effect
The increase in the prices of the US domestically produced goods raise the demand for other foreign made(made in other countries) products as the US local consumers finds them relatively cheaper. The amount of imports increases while at the same time decrease in the level of exports is recorded since the other countries will automatically find the US products relatively expensive. Consequently, a decrease in net exports is viewed and being one of the components of real Gross Domestic Product, the GDP decreases by a margin and the converse is also true.
Effects on the aggregate demand
AD2
As in the above diagram, aggregate demand curve either shifts to the left or rightwards from the initial AD0 to AD1 and AD2. The cause of the shifts is the changes in any real of the GDP components as opposed to price changes. Increased level of consumption of goods and services owing to an increase in government subsidies, investments and government expenditure as well as an increased net exports will cause a shift the aggregate demand to the right. The reverse is true with regards to all the components of real GDP.
Effects on the aggregate supply curve
AS2 AS0
AS1
The aggregate supply curve of the economy can either record shift to the right (AS1 ) or a shift to the left (AS2 ) as in the diagram above. The reasons for the shift include;
Change in price of inputs
Increased cost of inputs as a result of the government cut on subsidies will have an effect of shifting the aggregate supply curve leftwards from AS0 to the level AS2. US producers will find it uneconomical to increase production at high input costs and therefore reduce the amount/level of goods and services offered to the goods market. Contrary to this, if the price of inputs record a decrease in the event that the US government offers subsidies, the aggregate supply will increase. It will be indicated by the aggregate supply curve shifting from AS0 to AS1 .
Economic growth
The negative economic growth reduces the level of real GDP thereby reducing the level of purchases made by the consumers in different price levels. It makes the aggregate supply curve to shift to the left whereas when the economy experiences negative economic growth, the aggregate supply curve will shift to the right.
Economic indicators
The economic indicators that explain the current position of the US economy are as follows. Firstly, the unemployment rate has reduced to the current 5.9 percent, and this indicates that the economy is on the right path. The ability of the economy to provide maximum employment to the citizens indicate the positive direction taken by the economy. As many people are employed, the aggregate demand in the economy increases since the people can now purchase more goods and services owing to the increase in the purchasing power.
The GDP per capita is another economic indicator used to evaluate the economy's performance. The GDP per capita has steadily increased where in the year 2013 the reported value was $53,142.89. The aggregate GDP in the economy recorded was $16.8 trillion, and this was an increase from the previous $15.68 trillion. It indicates that the economy is on the right track with projections of 2014 expected to surpass the value recorded in 2013.
The steady increase in the national income also indicates that the economy is on a sound course. The increase has been realized from the 2012 value which was at $16.51 trillion PPP to $17.06 trillion PPP in 2013. It also indicates that the course of the economy is one aimed at improving the overall economic outlook. On the other hand, the deficit has decreased from the one recorded in 2013 ($680 billion). In general since the 2008 financial crisis, there have been significant strides towards the elimination of the government debts. There has been a general drop in the deficit, and the current deficit stands at $483 billion. These indicators give an active reflection on the course that the economy is currently experiencing (Bea.gov).
Inflation rates have reduced in the economy in the recent months. In January, the inflation rate was at 1.6 percent and increased to 2.1 percent in June but the rate dropped to 1.7 percent as recorded in October. The decrease in the general price level makes the demand for goods and services t increase in the economy. The US citizens find the incentive to purchase more when the general price level is low.
The only contradicting factor is the fact that in general, the federal government has accumulated a very large government debt from 2009 i.e. nearly $6.2 trillion and long term forecasts are that the deficits are not going to be eliminated in the currently due to the recent threats by ISIS which will prompt the government to increase the expenditure on defense. It is expected to worsen the economic situation since the money spent will not have a corresponding positive impact in the economy (Bea.gov).
Monetary policy
Monetary policies refer to the actions taken by the central bank (Federal Reserve) with a view of influencing money availability in the general economy and with the aim of achieving the country's economic goals. The monetary policy mandate is performed by the Fed and the mandate was given to the Fed when the Federal Reserve Act (1913) was enacted. The tools monetary policy that are used by the Fed to perform the obligations includes the reserve requirements, the discount rate, and open market operations. For the effectiveness in the roles, there are subdivisions and delegations in that the board of governors are responsible for overseeing the reserve requirement. On the other hand, the (FOMC) Federal Open Market Committee is charged with overseeing the open market operations (Schonhardt-Bailey 197).
Currently, the monetary policies are geared towards increasing the money supply with a view of inflating the currency and offer low-interest rates thereby leading to negative interest rates to bank depositors and increasing the attractiveness to business. The economy’s direction mainly depends on the fed policies since they make a difference with regards to the federal fund rates. Consequently, the foreign exchange rates, credit availability, short-term interest rates, money supply, long-term interest rates, unemployment, prices in the goods market and the output are altered. The twelve member committee (FOMC) meets eight times a year and currently the committee has the following members; Jane , Loretta J. Mester, Charles I. Plosser, and Daniel K. Tarullot L. Yellen (Chair), Stanley Fischer, William C. Dudley (Vice Chairman), Richard W. Fisher, and Jerome H. Powell. . The meetings’ objectives at all times are to make reviews on the current economic conditions and therefore determine the effectiveness of the monetary policies in place and also propose amendments. In addition, the FOMC also assesses the long run goals towards stabilizing the prices in the economy and the ability of the economy to sustain the growth (Federalresercurrentve.gov, 2014).
Recently, in their most current meeting that take place in October 28-29, 2014 several issues concerning the monetary policy were articulated. The observations made in the meeting by the committee were;
- There was a general improvement in the labor market as the rates of unemployment had reduced.
- The labor resource utilization also had improved
- A moderate increase in the expenditure on goods and services by the households and the economic activity had been recorded.
Considering the underlying conditions in the economy, the committee’s expectation were a moderate expansion of the economic activity on placement of appropriate policies. Also, they hinted that the inflation will be maintained low due to the reduced prices of energy with the lowest rate seen to be 2 percent. A significant improvement was recorded in the labor since the initiation of the asset purchase program. Also, the committee noted an improvement in the economy’s strength owing to the increase in the employment level due to price stability.
Current policies enacted
The committee decided to cut spending on asset purchases and maintained the policy of reinvesting principal payments coming from the agency debt and the mortgage-backed securities. An agreement was also reached at maintain accommodative financial conditions by rolling over the matured treasury securities auction. The federal fund rate was maintained at the 0 -1/4 percent in order to support continuity in the progress towards achieving stable prices and maximum employment in the economy. The effectiveness would be attained with the inflation rate being kept lower than the 2 percent as indicated by the FOMC (Federalreserve.gov, 2014).
Also, they agreed that with a faster progress to the realization of the expectations of inflation and employment, the federal funds rate would be increased at an earlier time than they expected and vice versa. A balanced, consistent approach will be taken into account when the committee will come up with a decision meant to eliminate the policy accommodation. In addition, the committee considered not to abort the current policies because even long after the employment and inflation are close to the expected levels, the economic conditions may not be favorable. Therefore, the targeted rates would be kept below the long-run level anticipated by the committee (Federalreserve.gov, 2014).
The adopted policies were as a result of votes by the board members except Narayana Kocher Lakota (current president of the Federal Reserve Bank, Minnesota) who had contradicting views. He had the belief that since there was persistence in the economic sluggishness, asset purchase program level could have been left at the current level. On the federal funds rate, the propositions put across was that the federal funds rate should be left to stay at the current range. This was to be for a period of either one to two years after which the inflation outlook would return to 2 percent (Federalreserve.gov).
Works cited
Bea.gov,. 'News Release: Gross Domestic Product'. N.p., 2014. Web. 24 Nov. 2014.
Federalreserve.gov,. 'FRB: Federal Open Market Committee'. N.p., 2014. Web. 23 Nov. 2014.
Masson, Paul R. Currencies, Crises, Fiscal Policy, And Coordination. Singapore: World Scientific, 2011. Print.
Schonhardt-Bailey, Cheryl. Deliberating American Monetary Policy. 2013. Print.
