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Advanced Economics
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<strong>Group Paper #2: Macroeconomic Impact on Business Operations.</strong></span></p> <p><span class="s1"></span> </p> <p><span class="s1">This essay will discuss monetary policy and its impact on macroeconomic factors, as well as the creation process of money, the tools used by the Federal Reserve to control the money supply, and the combinations of monetary policy required to balance growth, low inflation and a reasonable rate of unemployment.</span></p> <p><span class="s1"></span> </p> <p><span class="s1">Foremost, money is created through the actions of the central bank, the government and the private banks.The central bank, as the main actor in charge of the overall money supply, is able to determine the overall supply of money in the economy through the use of interest rates (discount rates), reserve requirements and open market operations. Foremost, by varying the interest rate, the central bank is able to control the amount of money in circulation in the economy (by encouraging lenders to save more or consumers and businesses to loan more), thereby changing the amount of money in the economy. (Wray, 1998) The interest rate (also known as discount rate) causes the money supply to change by varying the effective ‘price’ of money, and if the interest rate is higher, banks are unable to lend as much money as before, causing the money supply to contract. Conversely, if the interest rate is lower, banks will be able to lend more money, which causes the money supply to expand. Secondly, the central bank can change the amount of reserve requirements required by private banks. Banks typically do not hold the bulk of their loans or capital in hard cash or assets, as they typically accept money or capital from one party, keep a reserve fraction of it (such as 10 to 20%), and then loan out the rest to generate income through interest rates. (Clarida, 2000) As a result, central banks have to levy reserve requirements (the minimum proportion of XXXXX that XXXX XX be XXXX XX XXX XXXX as liquid XXXXXX XXXX XX cash) in order XX XXXX XXXX liquid. (Clarida, XXXX)<span XXXXX="XXXXX-XXXXXXXXX-XXXXX"> </span>XX raising XXX XXXXXXX requirements, XXX XXXXXXX bank forces XXXXXXX banks to XXXXX the amount of reserves, XXXXX limits their ability XX XXXXX XXXXX, which XXXXXXXXX XXXXXXXXXX XXX money supply. By decreasing XXX XXXXXXX requirements, the central bank XXXXXX private XXXXX to keep XXXX reserves in XXXXX, XXXXX allows XXXX XX XXXXX more XXXXX, thereby increasing XXX XXXXX XXXXXX.</span></p> <p><span class="XX"></span> </p> <p><span class="XX">XXXXXXX, open market operations XXXXX a central XXXX to purchase and sell US XXXXXX Treasury XXXXXXXXXX in the XXXX XXXXXX. By buying such XXXXXXXXXX, the XXXXXXXX held XX banks XXXXXXXXX, XXXXX XXXXXXX them to issue XXXX XXXXX at XXXXX interest XXXXX, which XXXXXXXXX XXX XXXXX XXXXXX. XXXXXXXXXX, XX the central bank sells X.S. backed XXXXXXXX securities in greater volume, XXXX XXX banks’ XXXXXXXX decrease, XXXXX XXXXXX XXXX XX XXXXX loans XX higher interest rates, which therefore XXXXXXXXX the XXXXX XXXXXX. (XXXXXXX, XXXX)</span></p> <p><span XXXXX="XX"></span> </p> <p><span class="s1" <three="" other="" XXXXXXXXXX="" XXX="" XXXXXXXXX="" in="" XXXXXXX="" the="" XXXXXX="" process="" XX="" money="" XXXXXXXX="" economy.="" printing="" XXXXX="" is="" one="" such="" XXXXXXXXX.="" XXXXXXX="" banks="" XXXXXXXXX="" XXXX="" XXXXXXX="" over="" XXXXX="" presses,="" and="" XXX="" decide="" how="" much="" physically="" XXXXXXXXXXX="" however,="" XXXX="" XXXXXXXXX="" has="" a="" XXXXX="" XXXXXX="" XX="" overall="" supply="" XXXXXXX,="" as="" global="" XXXX="" banknotes="" coins="" XXXXXXXXX="" to="" XX="" XX="" 2="" X="" %="" XXXXXX.="" that="" private="" XXXXX’="" use="" XXXXXXXXXX="" XXXXXXX="" banking,="" which,="" previously="" explained,="" XXXXXX="" them="" XXXX="" only="" fraction="" XXXXX="" XXXXX="" XXXX="" XXXX="" XXXXXXXX,="" loan="" out="" rest="" consumers,="" homeowners,="" businesses="" takers.="" result,="" every="" XXXX="" XXXXX="" XXXX="" they="" XX="" not="" have,="" XXXXXXXXXX="" XXXXXX="" XXXXXXXX="" also="" known="" XXXXXX="" XXXXXXXX.="" (woolley,="" 1985)="" XXXXX="" XXXXXXXXXX="" XXXXXXXX,="" u.s.="" government,="" XX="" act="" compels="" treasury="" XXXXXXXXXX="" (in="" bonds="" or="" XXXXXXXXXX)="" XXXXX="" then="" bought="" sold="" XXXXXXX="" reserve.="" hence,="" amount="" XXXXXXXX="" will="" XXXXXXX="" backed="" XXXXXXXXXXX.=""></span></p> <p>Three XXXXX mechanisms XXX important in explain XXX XXXXXX XXXXXXX XX XXXXX creation in the XXXXXX economy. The printing XXXXX XX one XXXX XXXXXXXXX. XXXXXXX XXXXX typically have control XXXX their printing presses, and XXX XXXXXX how XXXX XXXXX XX physically in XXXXXXXXXXX in XXX XXXXXXX. However, XXXX XXXXXXXXX has a minor XXXXXX on the overall money XXXXXX in the XXXXXXX, as the XXXXXX supply of money held in XXXXXXXXX and coins is XXXXXXXXX XX be at X to X % XX the XXXXXXX XXXXX XXXXXX. XXX other XXXXXXXXX XX that of private banks’ XXX of XXXXXXXXXX reserve XXXXXXX, XXXXX, XX previously XXXXXXXXX, allows them to keep XXXX a XXXXXXXX of XXXXX total loans in XXX XXXX XX XXXX XXXXXXXX, XXX loan out the XXXX to XXXXXXXXX, homeowners, XXXXXXXXXX and XXXXX loan XXXXXX. As a XXXXXX, every XXXX the banks issue a XXXX with XXXXX they XX XXX have, XXXX implicitly create XXXXX XXX XXXXXXXX the XXXXX supply. This XX XXXX known XX the XXXXXXXXXX reserve XXXXXX of money XXXXXXXX. (XXXXXXX, 1985) The XXXXX mechanism that is XXXXXXXXX is XXX mechanism of XXXXXXXXXX XXXXXXXX, XXX U.S. XXXXXXXXXX, XX the act of spending, XXXXXXX the U.S. treasury XX XXXXX securities (in the XXXX XX XXXXX or loans XX XXX X.S. government) XXXXX XXX then bought or XXXX by XXX XXXXXXX Reserve. XXXXX, the XXXXXX of U.S. XXXXXXXXXX XXXXXXXX XXXX impact the total XXXXXX XX money XXXXXX through XXX XXXXXX XX U.S. XXXXXX XXXXXXXX securities in circulation.<XX></p><p></p> <p><XX></p> <p></p> <p><span XXXXX="XX" <XXX="" XXXXXXX="" reserve="" XXXXX="" XXXXXXXX="" XXX="" XXXXXX="" the="" XXXXX="" XXXXXX="" through="" XXX="" XX="" m-system,="" which="" comprises="" XX,="" XX,="" XX="" XX.="" XX="" known="" XX="" ‘XXXXXX="" money’,="" comprise="" XXXXX="" XXXXX="" in="" XXXXXX="" XXXXXXXXXXX="" other="" XXXXXX="" liquid="" forms="" XXXXX.="" XX="" XXXXX-term="" time="" deposits.="" m3="" XXXX-term="" these="" differing="" tiers="" XXXX="" XX="" XXXXXXX="" track="" XXXXXXXXXX="" progress="" XXX=""></span></p> <p>The XXXXXXX Reserve XXXXX XXXXXXXX and XXXXXX the XXXXX supply XXXXXXX the XXX of XXX X-XXXXXX, which XXXXXXXXX M0, XX, M2 XXX XX. M0 XXX M1, XXXXX XX ‘XXXXXX XXXXX’, comprise coins XXX XXXXX in XXXXXX XXXXXXXXXXX XXX XXXXX highly XXXXXX XXXXX of money. XX XXXXXXXXX XX XXX XXXXX-XXXX time deposits. XX XXXXXXXXX XX and long-XXXX XXXXXXXX. XXXXX XXXXXXXXX tiers of money XXXXXX XXXX the Federal XXXXXXX to measure XXX XXXXX XXX volatility and XXXXXXXX XX its XXXXX.</p> <p><br></p> <p></p> <p><span class="XX">As XXXXXXX discussed, XXX tools used by XXX Federal XXXXXXX to control XXX money supply XXX open market operations (XXX purchase XXX sale XX XX XXXXXX XXXXXXXX securities in the open XXXXXX), reserve requirements (XXX XXXXXX XX reserves XXXXX have XX XXXX as a XXXXXXXX of their XXXXX assets), and interest rates (the ‘XXXXX’ of XXXXX in an economy). XX XXXXXXX, the Federal XXXXXXX XXXXXX XXXX open market XXXXXXXXXX, as XXXXX XXXXXX is immediate, XXXXXXX XXX can XX felt in a XXXXXX of hours. XX XXXXX XXXXXXXX XX change loans XX XXXXXXXX, banks typically try to set XXXXX XXXXXXX XXXXXXXXXXXX to XXX XXXXX XXXX XXXXXXXXXX the central XXXX will set. This XXX of anticipation XXXXXXXXX renders XXX use XX XXXXXXX requirements to influence money XXXXXX ineffective, XXXXXXX private banks would already XXXX anticipated it XXXXXXXXXX. (XXXXXXX, 1985) XXXXXXXXXXX, the discount XXXX XX not very XXXXXXXXX in influencing XXX money supply as it XXX to XXXXXX XXXX XXXXXXX XXXXX are XXXXXXXXX reserves XXXX XXX XXXXXXX XXXXXXX, XXXX in reality, XXX link XXXXXXX private bank loans from the XXX XXX XXX XXXXXXXX XXXX XX XXXXXXX at XXXX.<span XXXXX="Apple-converted-space"></span></span></p> <p><span XXXXX="s1"></span> </p> <p><span XXXXX="s1">Monetary XXXXXX XXXXXXXX XXX XXXXXXXXX or contraction of XXX money supply, XXX XXX XXXXXXXX or decrease XX XXXXXXXX XXXXX. As a result, it has a significant impact on macroeconomic XXXXXXXXXX XXXX XX XXXXXXXXXXXX, XXXXXX XXX XXXXXXXXX. A contractionary XXXXXXXX XXXXXX, where the XXXXXXX bank acts XX restrict the XXXXX XXXXXX and XXXXX interest XXXXX, XXXXXXXXX XXXXX XX a fall in growth XXXXX, a XXXX in unemployment rates, and a XXXX in inflation rates. XXXX is because contractionary monetary XXXXXX XXXXXXXXX XXXXXXXXX XXX XXXXXX XX loans XXX liquidity in an economy, which allows consumers XX consume less (ie. XX XXXXXX out loans XXX cars, home mortgages, etc.) XXX businesses XX XXXXXX XXXX. Conversely, an expansionary monetary XXXXXX, where the central XXXX XXXX XX XXXXXXXX XXX XXXXX XXXXXX and XXXXX XXXXXXXX XXXXX, XXXXXXXXX leads to a XXXX in XXXXXX XXXXX, a XXXX in XXXXXXXXXXXX XXXXX, XXX a XXXX in inflation rates. This is XXXXXXX XXXXXX the monetary XXXXXX XXXXXX consumers and XXXXXXXXXX XX spend XXX invest more (XXXX credit more XXXXXX XXXXXXXXX), which spurs XXXXXX XXX employment XXX XX XXXX XXXXXXXXXXXX in XXXXXX. (Woolley, XXXX)</span></p> <p><span class="XX"></span> </p> <p><span XXXXX="s1" <XXX="" XXXXXXXXXXXX="" of="" XXXXXXXX="" XXXXXX="" XXXXXXXX="" to="" XXXXXXX="" XXXXXX,="" XXX="" inflation="" XXX="" a="" XXXXXXXXXX="" rate="" XXXXXXXXXXXX="" XXX="" XXXXXXX,="" XXXXX="" XXXX="" XXXXXXXXXXX="" at="" the="" XXXXXXXXXXXX="" federal="" XXXXXXX.="" reserve="" typically="" desires="" X%="" (XXXXX="" only="" reflects="" natural="" in="" any="" given="" economy),="" an="" 2="" X%,="" XXXXXX="" 3="" XXXXXX="" XXXXXXX.="" XXXXX,="" XX="" XXXXXXX="" XX="" growing="" XXX="" XXXX="" inflationary,="" XXXXXXXXXXXXXX="" has="" be="" implemented="" order="" expand="" XXXXX="" XXXXXX,="" lower="" interest="" rates,="" boost="" expenditure="" XXXXXXXXXX="" consumers.=""></span></p> <p>The combinations of XXXXXXXX XXXXXX required XX XXXXXXX XXXXXX, XXX inflation XXX a reasonable rate of unemployment XXX complex, XXX are often XXXX imperfectly at XXX jurisdiction of XXX XXXXXXX XXXXXXX. The XXXXXXX Reserve XXXXXXXXX desires a XXXXXXXXXX rate of unemployment XX X% (which XXXX XXXXXXXX the natural rate of unemployment in XXX XXXXX XXXXXXX), an inflation XXXX XX X XX 3%, XXX a XXXXXX rate XX X to X% in a modern economy. Hence, XX the economy is growing XXX XXXX XXX is inflationary, contractionary monetary policy XXX XX be XXXXXXXXXXX in order to XXXXXX the money XXXXXX, lower XXXXXXXX XXXXX, and XXXXX XXX XXXXXXXXXXX XX XXXXXXXXXX and XXXXXXXXX. (XXXX, XXXX) Conversely, XX XXX XXXXXXX XX XXXXXXX XXX slowly XXX XX contracting, expansionary monetary policy XXX to XX implemented in order to XXXXXXXX XXX money XXXXXX, raise XXXXXXXX XXXXX, XXX XXXXX XXX expenditure XX XXXXXXXXXX XXX XXXXXXXXX. XXXXXXX, the XXXXXXX XX the central bank XX act XXXXXXXXXXX of political interests has XXXX XXXXXXXXXXXX XXXXXXXXXX, XXXXX that it is difficult XX obtain a mandate XX restrict growth in a XXXX of a XXXXXXX economy. (XXXX, XXXX)<br></p><p></p> <p><br></p> <p></p> <p><span XXXXX="XX">In conclusion, XXXXX is XXXXXXX through XXX Federal XXXXXXX’s use XX XXXX market XXXXXXXXXX, reserve requirements and XXXXXXXX XXXXX, XX XXXX XX XXXXXXX government XXXXXXXX and XXX XXX of the XXXXXXXX XXXXX. XXXXXXXXXX XXXXX contribute to XXXX XXXXXXX by using fractional reserve banking to issue loans and create XXXXX implicitly, while XXXXXXXXXXX XXXXXXXXXX by XXXXXXX XXXXX XXXXXXXX. XXX XXXXXXX XXXXXXX’s XXXXXXXXX XXXX XX choice XX vary the money supply XX XXX XXXX XXXXXX operations process, XXX the XXXXXXX XXXXXXX has to XXXXXX XXXXXX contractionary or XXXXXXXXXXXX monetary policy, depending on XXX state XX XXX economy, in order XX XXXXXXXX XXX XXXXXXXXXXX XXXXX XX XXXXXXXXX, XXXXXX and unemployment in XXX XXXXXXX.<span XXXXX="XXXXX-XXXXXXXXX-XXXXX"></span></span></p> <p><span class="s1"></span> </p> <p><span XXXXX="s1">References</span></p> <p><span XXXXX="XX"></span> </p> <p><span class="XX">Clarida, R., XXXX, J., & XXXXXXX, X. (2000). Monetary policy rules XXX XXXXXXXXXXXXX XXXXXXXXX: XXXXXXXX XXX some XXXXXX.<em>XXX Quarterly XXXXXXX XX XXXXXXXXX</em>,<em>115</em>(X), 147-180.</span></p> <p><span XXXXX="s1"></span> </p> <p><span XXXXX="XX">Friedman, X. (XXXX). XXX XXXX XX monetary XXXXXX. In<em>XXXXXXXXX XXXXXXXX in XXXXXXXXX</em>(pp. 215-231). XXXXXXXX, London.</span></p> <p><span XXXXX="s1"></span> </p> <p><span XXXXX="XX">XXXXXX, X. X. (2008).<em>XXX XXXXXXXX policy XX XXX Federal Reserve: a history</em>. Cambridge University XXXXX.</span></p> <p><span XXXXX="XX"></span> </p> <p><span XXXXX="s1">XXXXXXX, J. X. (XXXX).<em>Monetary XXXXXXXX: XXX XXXXXXX XXXXXXX XXX XXX XXXXXXXX XX XXXXXXXX XXXXXX</em>. Cambridge University XXXXX.</span></p> <p><span XXXXX="s1"></span> </p> <p><span class="XX">Wray, L. R. (XXXX). XXXXXXXXXXXXX modern XXXXX.<em>XXXXX</em>.</span></p> <p><span XXXXX="s1"></span> </p>">
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