Tài liệu Thị trường tài chính và các định chế tài chính_ Chapter 05 pdf

Chapter Outline Tradeoff faced by the Fed  Lags in monetary policy  Assessing the impact of monetary policy  Integrating monetary and fiscal policies  Global effects of monetary pol

Chapter 5

Monetary Theory and Policy

Chapter Outline

 Tradeoff faced by the Fed

 Lags in monetary policy

 Assessing the impact of monetary policy

 Integrating monetary and fiscal policies

 Global effects of monetary policy

Monetary Theory

between the demand for money and the supply of

money to influence:

 Interest rates

 The aggregate level of spending

 Economic growth

Monetary Theory (cont’d)

Can be explained by using the loanable funds framework

determine the equilibrium interest rate

inverse relationship between interest rates on loanable funds and the level of business

investment

Monetary Theory (cont’d)

 Pure Keynesian Theory (cont’d)

 The Fed would use open market operations to increase the money supply

 A higher level of the money supply would reduce interest rates

 Lower interest rates encourage more borrowing and spending

 Keynesian philosophy advocates an active role for the government in correcting economic problems

Monetary Theory (cont’d)

Monetary Theory (cont’d)

Correcting high inflation

the money supply)

level of spending

reduces inflationary pressure (demand-pull

inflation)

Monetary Theory (cont’d)

Monetary Theory (cont’d)

 Pure Keynesian Theory (cont’d)

 The economic impact of monetary policy depends on the willingness of banks to lend funds

 If banks are unwilling to extend credit despite a stimulative

policy, the result is a credit crunch

 A credit crunch can occur during a restrictive policy since some borrowers will not borrow because of the high interest rates

Monetary Theory (cont’d)

 Quantity Theory and the Monetarist approach

 The quantity theory suggests a particular relationship between the money supply and the degree of economic activity in the equation of exchange:

 Velocity is the average number of times each dollar changes hands per year

 The right side of the equation is the total value of goods and services produced

 If velocity is constant, a change in the money supply will produce a predictable change in the total value of goods and services

Q P

MV  G

Monetary Theory (cont’d)

 Quantity Theory and the Monetarist approach

(cont’d)

 Assumes a direct relationship between the money supply and prices

the constant quantity assumptions has been

relaxed

 A direct relationship exists between the money supply and the value of goods and services

Monetary Theory (cont’d)

 Quantity Theory and the Monetarist approach

Monetary Theory (cont’d)

 Comparison of the Monetarist and Keynesian

Theories

growth in the money supply

 Allows economic problems to resolve themselves

monetary policy to cure a recession

Monetary Theory (cont’d)

 Comparison of the Monetarist and Keynesian

Theories (cont’d)

inflation and are willing to tolerate a natural rate of

unemployment

unemployment and are willing to tolerate any

inflation that results from stimulative monetary

policies

Monetary Theory (cont’d)

 Theory of Rational Expectations

 Holds that the public accounts for all existing information

when forming its expectations

 Suggests that households and business will use historical

effects of monetary policy to forecast the impact of an

existing policy and act accordingly

 Households spend more with a loose monetary policy to avoid inflation

 Businesses will increase their investment with a loose monetary policy to avoid higher costs

 Labor market participants will negotiate higher wages with a loose monetary policy

 Supports the Monetarist view that changes in monetary

policy do not have a sustained impact on the economy

Monetary Theory (cont’d)

 Which theory is correct?

Tradeoff Faced by the Fed

 Ideally, the Fed would like:

 There is a negative relationship between

unemployment and inflation

 Phillips curve

unemployment and vice versa

Tradeoff Faced by the Fed (cont’d)

 Impact of other forces on the tradeoff

Cost factors such as energy costs and

insurance costs can influence the tradeoff

When both inflation and unemployment are

high, Fed members may disagree as to the

type of monetary policy that should be

implemented

Tradeoff Faced by the Fed (cont’d)

 How the Fed’s focus shifted during the Persian Gulf War

 There were numerous indications of a possible recession in the summer of 1990

 The abrupt increase in oil prices placed upward pressure on U.S inflation

 How the Fed’s emphasis shifted during 2001–2004

 The focus shifted from high inflation to the weak economy over time

 From January to December 2001, the FOMC reduced the targeted federal funds rate ten times

 In 2002 and 2003, the Fed reduced the federal funds target rate twice

Economic Indicators Monitored by the Fed

Gross domestic product (GDP)

produced

Level of production

can result in increased demand for labor

Economic Indicators Monitored by the Fed (cont’d)

 Indicators of economic growth (cont’d)

 The total income earned by firms and individual employees

 A strong demand for goods and services results in a large amount of income

 Does not necessarily indicate the degree of economic growth

 Can decrease in weak economic growth periods if new jobs are created

Economic Indicators Monitored by the Fed (cont’d)

 Indicators of economic growth (cont’d)

Industrial production index

Retail sales index

Home sales index

Composite index

Consumer confidence surveys

Economic Indicators Monitored by the Fed (cont’d)

 Indicators of inflation

Producer and consumer price indexes

Other indicators

gold, indicators of economic growth

Economic Indicators Monitored by the Fed (cont’d)

The Fed uses indicators to anticipate how

economic conditions will change and then

determines what monetary policy would be

appropriate

expansionary monetary policy

restrictive monetary policy

Economic Indicators Monitored by the Fed (cont’d)

 Index of Leading Economic Indicators

coincident, and lagging economic indicators

 Leading economic indicators are used to predict future

economic activity

 Three consecutive monthly changes in the same direction suggest a turning point in the economy

 Coincident economic indicators reach their peaks and

troughs at the same time as business cycles

 Lagging economic indicators tend to rise or fall a few

months after business-cycle expansions and contractions

Lags in Monetary Policy

 The recognition lag is the lag between the time

a problem arises and the time it is recognized

 The implementation lag is the lag between the

time a serious problem is recognized and the

time the Fed implements a policy to resolve it

 The impact lag is the lag between the a policy is

implemented and the time the policy has its full impact on the economy

Lags in Monetary Policy (cont’d)

 Lags hinder the Fed’s control of the

economy

By the time a policy is implemented, economic conditions may have reversed

Without monetary policy lags, implemented

policies would have a higher rate of success

Assessing the Impact of Monetary Policy

 Financial market participants will not all

react to monetary policy in the same

manner

Different securities are affected differently

 Participants trading the same securities

may still be affected differently

Expectations about the policy’s impact on

economic variables may differ

Assessing the Impact of Monetary Policy (cont’d)

 Periodicals sometimes specify the weekly ranges of M1 and M2 based on the Fed’s disclosure of target ranges

 When the actual money supply falls outside the target range, a change in the Fed’s range has not yet been publicly announced

 Improved communication from the Fed

 Uncertainty about FOMC meeting results prior to 1999 caused volatile price movements

 Since 1999, the Fed has been more willing to disclose its conclusions (federal funds rate target changes and possible future tightening or loosening of the money supply)

Assessing the Impact of Monetary Policy (cont’d)

 Forecasting the impact of monetary policy

changes in the money supply, they may not be able to predict future economic conditions

 The historic relationship between the money supply and economic variables has not been stable

 Impact of monetary policy across financial markets

 Monetary policy affects the securities traded in all financial markets due to its effect on interest rates and economic growth

Integrating Monetary and Fiscal

Policies

 The Fed’s monetary policy is commonly

influenced by the administration’s fiscal policies

 The Fed and the administration often use

complementary policies to resolve economic

problems

 Fiscal policy typically influences the demand for loanable funds, while monetary policy normally has a larger impact on the supply of loanable

funds

Integrating Monetary and Fiscal

Policies (cont’d)

 History

concerned with maintaining strong economic growth and low unemployment

 The Fed shared the same concerns in the early 1970s

 By 1980, there was high inflation and unemployment

 The administration cut taxes to stimulate the economy

 The Fed used a tight monetary policy to reduce inflation

 The Fed ultimately loosened the money supply in 1983

Integrating Monetary and Fiscal

Policies (cont’d)

 Monetizing the debt

that has been created from fiscal policy?

 Loosening the money supply in response to a higher budget

deficit is called monetizing the debt

 If the Fed does not monetize the debt, a weak economy may

be more likely

 If the Fed monetizes the debt, higher money supply growth is required

Integrating Monetary and Fiscal

Policies (cont’d)

 Market assessment of integrated policies

monetary policies when assessing future economic conditions

 The supply of loanable funds can be affected by the Fed’s adjustment of the money supply or changes in tax policies

 The demand for loanable funds is affected by changes in the money supply or government expenditures and possibly tax revisions

 Once the supply and demand for loanable funds has been forecasted, interest rate movements can be forecast

Global Effects of Monetary Policy

 Impact of the dollar

imports, which stimulates the economy

policy when the dollar is weak

 Impact of global economic conditions

countries purchase more U.S products, which

stimulates the U.S economy

Global Effects of Monetary Policy

(cont’d)

 Transmission of interest rates

by foreign inflows of funds

rates in other countries

 Global crowding out

 Fed policy during the Asian Crisis

would have without the crisis

 Offset the lower demand for U.S exports and helped to sustain U.S demand for foreign exports