Monetary & Fiscal Policy

During the Great Depression, the government funded many public works, one of which was the construction of the Hoover Dam, to stabilize the economy. The US has been in a trend of increased federal spending, and are failing to run a "wise and frugal government," as advised by Thomas Jefferson. One issue is that the federal budget favors continual program expansion, and have a lack of structural controls.

The government can implement two types of policies: demand-side policies and supply-side policies.

The purpose for demand-side policies is to increase spending, lower taxes, and enact measures that encourage businesses and consumers to spend more. They are designed to increase or decrease total demand in the economy. One way can try and change demand is known as fiscal policy, which is the government's attempt to influence or stabilize through taxing and government spending. Another key component of fiscal policy is the role of automatic stabilizers - programs that automatically trigger benefits if changes in the economy threaten income. These benefits are automatic because they were previously approved in prior legislation. Automatic stabilizers would include corporate and personal taxes, and transfer systems such as unemployment insurance and welfare. With personal income tax, the US has what is known as a progressive income tax, which places individuals in a specific tax bracket based on their income. Those who have lost their jobs and take a major cut in their income will most likely fall into a lower tax bracket, and not be required to pay the tax rate they previously paid at a higher income.

Unemployment insurance is insurance that workers who lose their jobs through no fault of their own can collect from individual states for a limited amount of time. those who have been fired due to misconduct, or left their job without good reason would not qualify to receive unemployment insurance. This stabilizer would be more specifically known as an entitlement, which is a broad social program that uses established eligibility requirements to provide health, nutritional or income supplements. This assistance is provided for those who lose a job, are injured on the job and receive medical benefits, or are forced to retire because of age or health.

These policies cut spending, reduce the number of federal agencies, relaxes regulations and lowers taxes. They are designed to stimulate output and lower unemployment by increasing production rather than stimulating demand. While slightly different, the main goals of both supply and demand-side policies are to increase production and decrease unemployment without increasing inflation. Within supply-side policies, one of the key goals is to reduce government's role in the economy. This is accomplished through the reduction in number of federal agencies, or to just reduce spending overall at the federal level. Another way to lessen government's role is through deregulation - relaxation or removal of government regulations on business activities.

Monetarist policies seek steady economy growth by controlling the money supply. Monetarism places primary importance on the role of money in the economy. Monetary policy is the actions made by the Federal Reserve System to expand or contract the money supply in order to affect the cost and availability of credit (change the level of interest rates). It is completely based on the mechanism of supply and demand. More money will be demanded when the interest rate is low. When the Fed conducts its monetary policy, it changes interest rates by changing the size of the money supply. Under an easy money policy, the Fed expands the money supply, causing interest rates to fall. This stimulates the economy because people borrow more at lower interest rates. On the opposite end, under a tight money policy, the Fed restricts the size of the money supply. This drives the cost of borrowing money up and slows economic growth because it discourages everyone to borrow and spend less.

Student Activity

Sources

• The Federal Reserve: CNBC Explains