Fiscal and Monetary Policy Flashcards
Learn the Basics of Monetary Policy
Federal Funds Rate
Interest rate which one bank lends funds to another bank overnight
Money Supply
Tool which the Federal Reserve makes policy
Quantity of Money
Affects the supply curve in the market for loanable funds, affecting the interest rate in the market
Target Interest Rate
Federal Funds Rate
Expansionary Money Policy
Policy that increase the supply of money and the quantity of loans: also called “loose” monetary policy
Effects of Expansionary Monetary Policy
Decreases federal funds rate
Contractionary Monetary Policy
Policy that decreases the supply of money and the quantity of loans; also called “tight” monetary policy
Effects of Contractionary Policy
Increase in the federal funds rate
Overall Thoughts on the Federal Reserve
Announces a target for the federal funds rate, then uses open market operations to affect the money supply such that the effective federal funds rate matches the target
Discount Rate
Interest Rate the Fed charges when lending to banks
Effective Federal Funds Rate
Determined by market forces
Tight/Contractionary Policy
Fewer Loanable Funds - Higher Interest Rate
Felt Effects of Tight Monetary Policy
Business investment will decline; less attractive to borrow money and the opportunity cost of investing are higher
Financing of large consumer purchases becomes more expensive with higher interest, encouraging such purchases
Felt Effects of Loose/Expansionary Policy
Business investment will increase; more attractive to borrow money and the opportunity cost of investing are lower.
Financing of large consumer purchases becomes less expensive with lower interest, discouraging such purchases
Velocity
Describes how quickly money circulates through the economy - higher velocity means that the average dollar circulates more times in a year
Excess Reserves
Banks are hesitant to lend, and expansionary monetary policy may not work as well
Velocity
Nominal GDP/Money Supply
Basic Quantity Equation - Money
Money Supply x Velocity = Nominal GDP
Inflation- Targeting
A rule that the central bank is required to focus only on keeping inflation low
Political Influence
Central Banks public elections can lead to expansionary monetary policy and high unemployment
Budget Surplus
When the government receives more in taxes than it spends in a year
Budget Deficit
When the government spends more than it collects in taxes in a given year
Balanced Budget
When government spending and taxes are equal
Taxation
Individual Income Tax, Corporate Income Tax, Payroll Tax
Progressive/Regressive Tax
A tax that collects greater//smaller share of income from those with higher income that those with lower income
Proportional (Flat) Tax
Tax as a flat percentage of income earned, regardless of level of income
Government Debt
The total accumulated amount that the government has borrowed and not yet paid back over time
Fiscal Policy
Economic Policies that involve government spending and taxes
Expansionary Fiscal Policy
When fiscal policy increases the level of government spending (G) and thus increases the level of aggregate demand, either through increases in government spending or cuts in taxes
Contractionary Fiscal Policy
When fiscal policy decreases the level of government spending (G) and thus decreases the level of aggregate demand, either through cuts in government spending or increases in taxes
Discretionary Fiscal Policy
When the government passes a new law that explicitly changes overall tax or spending levels
Automatic Stabilizers
Tax and spending rules that have the effect of increasing aggregate demand when the economy slows down and restraining aggregate demand when the economy speeds up, without any additional change in legislation
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