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Flashcards in Monetary and Fiscal Policy Deck (29)
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1
Q

What is Fiscal policy as well as budget surplus/deficit?

A

Fiscal policy refers to governments use of spending and taxation to influence the economy. Balance when exp=rev, surplus when rev>exp, deficit when rev

2
Q

What is monetary policy?

A

Change the money supply and credit in an economy. Expansionary - more money, more credit. Contractionary - reducing money, less credit. Both seek to maintain stable prices and economic growth.

3
Q

What is the definition of money?

A

Generally accepted medium of exchange rather than directly. It is a unit of account that goods are expressed in. Stores of value - can be saved for later.

4
Q

What is broad and narrow money?

A

Narrow money is the amount of notes and coin in circulation. Broad money includes narrow money and available liquid assets which can be used for purchases.

5
Q

What is broad and narrow money?

A

Narrow money is the amount of notes and coin in circulation. Broad money includes narrow money and available liquid assets which can be used for purchases.

6
Q

Describe the money creation process.

A

A portion of deposits can be loaned - amount kept is called a reserve. Loan money is received, and spent. These businesses can now deposit the money as well. Creates money in many multiples.

Total calculated by = Deposit/Reserve Req

Multiplier = 1 / Reserve req

7
Q

What is demand of money? What are the three theories?

A

Amount of wealth that household and firms in an economy choose to hold in the form of money.

Transaction demand: money held to meet the need for undertaking transactions.
Precautionary demand - money held for unforeseen future needs.
Speculative demand - money that is available to take adage of investment.

At lower interest rates household hold more money.

8
Q

What is demand of money? What are the three theories?

A

Amount of wealth that household and firms in an economy choose to hold in the form of money.

Transaction demand: money held to meet the need for undertaking transactions.
Precautionary demand - money held for unforeseen future needs.
Speculative demand - money that is available to take adage of investment.

At lower interest rates household hold more money.

9
Q

What is the Fisher Effect?

A

states that the Nominal interest rate is simply the sum of the real rate and expected inflation.

Rnom=Rreal + E(I) + RP

10
Q

What are the key roles of central banks?

A

Sole supplier of currency. Used to be backed by gold, now legal tender - called a fiat currency - as long as it holds value and can be used, it is a medium of exchange.

Banker to the government and other banks

Regulator and Supervisor of payments system. In many countries central bank regulate the system by imposing standards of risk taking.

Lender of Last Resort - Can print money if really needed.

Holder of Gold and foreign reserves.

Conductor of Monetary policy.

11
Q

What is the key objective of a central bank?

A

To control inflation and promote price stability. Inflation leads to menu costs - the cost of always having to change prices. and Shoe leather costs - cost to individuals to making frequent trip to the banks.

Other goals: Stability in exchange, full employment, positive economic growth, moderate long term interest rates.

12
Q

What are the three main tools of monetary policy?

A

Policy rate: Banks borrow funds from the fed to cover temp shortfalls in reserves.
Reserve requirements: increases req will reduce money available for lending or vice versa, and increases rates.

13
Q

What are the three main tools of monetary policy?

A

Policy rate: Banks borrow funds from the fed to cover temp shortfalls in reserves.

Reserve requirements: increases req will reduce money available for lending or vice versa, and increases rates.

Open Market Operations: Buys securities, cash replaces securities, banks have excess reserves, more funds are available, money supply increases and interest rates decrease.

14
Q

What are the three main tools of monetary policy?

A

Policy rate: Banks borrow funds from the fed to cover temp shortfalls in reserves.

Reserve requirements: increases req will reduce money available for lending or vice versa, and increases rates.

Open Market Operations: Buys securities, cash replaces securities, banks have excess reserves, more funds are available, money supply increases and interest rates decrease.

15
Q

What are the three main QUALITIES of a central bank?

A

Independence: free from political interference. Operational independence means that the central bank is allowed to determine the policy rate. Target independence calculate inflation, sets target and determines horizon.

Credibility: Should follow through. Becomes self-fulfilling.

Transparency: periodically discloses state of the economic environments through inflation reports.

16
Q

When is monetary policy expansionary or contractionary?

A

Neutral interest rate=real trend rate of economic growth + inflation target.

17
Q

When is monetary policy expansionary or contractionary?

A

Neutral interest rate=real trend rate of economic growth + inflation target. When the policy rate is above neutral rate then it is contractionary.

18
Q

What are limitations of monetary policy?

A

Too extreme, making long term bonds attractive.

If transmission mech may not work if demand for money becomes elastic and individuals hold more money even decrease in short term rates - liquidity trap.

Deflation is hard to get out of. Monetary policy needs to be expansionary usually.

Under circumstances even with expanded credit, people won’t lend. After 2008, interest rates went to zero, no growth, almost at deflation, had to start QE.

19
Q

What is Quantitative Easing?

A

Used to prevent a deflation situation. In UK, entailed buying large amounts of gov bonds. Reduce rates, encourage borrowing to generate excess reserves and encourage lending.

In US. MBS were purchased to encourage lending. Didn’t work, QE2 purchases 100s billion of T-bills to excess reserves and encourage lending and lower long term rates. Also purchases credit risk, improving balance sheets.

20
Q

What are some of the challenges of monetary policy in developing countries?

A

Without liquid markets information may be distorted and open market operations hard to implement. In rapid developing countries, hard to determine neutral rate. Central banks may lack credibility because of past, and may not be given independence.

21
Q

What are some of the challenges of monetary policy in developing countries?

A

Without liquid markets information may be distorted and open market operations hard to implement. In rapid developing countries, hard to determine neutral rate. Central banks may lack credibility because of past, and may not be given independence.

22
Q

What are the roles and objectives of Fiscal Policy?

A

Discretionary - decisions made to effect economy.
Automatic Stabilizers - builtin fiscal devices triggered by economy.

Point is to influence AD, redistribute wealth, allocate resources.

23
Q

What are spending tools and revenue tools?

A

Spending Tools: Transfer payments (redistribution of wealth), current spending - gov purchases on routine basis, Capital spending - gov spending on infrastructure - boosts future productivity. These tools benefit all, enhance growth.

Most effective for changing AD.

Revenue Tools: Direct taxes levied on income or wealth. Indirect taxes are levied on goods and services. Desirable because - simple to use, efficient, fairness - people in similar situation pay similar taxes, richer people pay more. Sufficient - usually generates enough.

Social policy can be quickly changes with indirect tax. Mor revenue for the gov easily.

24
Q

What is the equation for fiscal multiplier and what is it?

A

The potential increase in AD from increase in government spending.

Fiscal Multiplier = 1 / 1 - MPC(1-t)

More MPC, more multiplier.

25
Q

What is the equation for fiscal multiplier and what is it?

A

The potential increase in AD from increase in government spending.

Fiscal Multiplier = 1 / 1 - MPC(1-t)

More MPC, more multiplier.

26
Q

What are the arguments for and against being concerned with fiscal deficit?

A

For: Higher deficits, higher future taxes. If markets lose confidence, investors may not be willing to refinance debt. Increased gov borrowing tends to increase interest rates.

Against: If debt is primarily held by domestic individuals, not a big deal. If debt is used to finance productive capital, then future gain will cover it. Fiscal deficit may prompt tax reform.

27
Q

Explain the implementation of fiscal policy and the difficulties.

A

Discretionary: forecasts may be wrong, complications arise to delay both the implementations and impact.

Misread economic stats - not precise.
Expansionary policy may crowd out private investment, reducing impact.
Supply Shortages: if economy is based on resources than fiscal policy can’t do much.
Deficit limit: There is limit.
Multiple Targets: hard to address multiple issues at once.

Contractionary in surplus (more taxes, revenues). Expansionary in deficit.

28
Q

What are the three types of lag in fiscal policy?

A

Recognition lag: slow political process. takes time to recognize and make changes.
Action lag: time taken to discuss, vote and enact.
Impact lag: the delay of when it is enacted and the impact is felt.

29
Q

What are the three types of lag in fiscal policy?

A

Recognition lag: slow political process. takes time to recognize and make changes.
Action lag: time taken to discuss, vote and enact.
Impact lag: the delay of when it is enacted and the impact is felt.