1. What do monetarists think are the short-term effects and the long-term effect
ID: 1228590 • Letter: 1
Question
1. What do monetarists think are the short-term effects and the long-term effects of using discretionary monetary policy to smooth out economic fluctuations caused by the business cycle? What is their advice for controlling the money supply?2. Discuss the impact of several years of large federal government budget deficits & an increasing national debt on international trade: How are today’s interest rates, exchange rates, and the balance on goods and services affected by selling bonds to finance the federal government’s budget deficits?
3. If the federal government was to begin running a budget surplus and paying down the national debt, how would exchange rates, interest rates and the balance on goods and services be affected by repayment of the national debt?
Explanation / Answer
1. Monetary policy is the process by which the monetary authority of a country controls the supply of money, often targeting a rate of interest for the purpose of promoting economic growth and stability.[1] [2] The official goals usually include relatively stable prices and low unemployment. Monetary theory provides insight into how to craft optimal monetary policy. It is referred to as either being expansionary or contractionary, where an expansionary policy increases the total supply of money in the economy more rapidly than usual, and contractionary policy expands the money supply more slowly than usual or even shrinks it. Expansionary policy is traditionally used to try to combat unemployment in a recession by lowering interest rates in the hope that easy credit will entice businesses into expanding. Contractionary policy is intended to slow inflation in hopes of avoiding the resulting distortions and deterioration of asset values. 2.Many economists believe government deficits influence the economy through the loanable funds market, whose existence Chartalists and other Post-Keynesians dispute. Government borrowing in this market increases the demand for loanable funds and thus (ignoring other changes) pushes up interest rates. Rising interest rates can "crowd out" (discourage) fixed private investment spending, canceling out some or even all of the demand stimulus arising from the deficit—and perhaps hurting long-term supply-side growth. But increased deficits also raise the amount of total income received, which raises the amount of saving done by individuals and corporations and thus the supply of loanable funds, lowering interest rates. Thus, crowding out is a problem only when the economy is already close to full employment (say, at about 4% unemployment) and the scope for increasing income and saving is blocked by resource constraints (potential output). Despite a government debt that exceeded GDP in 1945, the U.S. saw the long prosperity of the 1950s and 1960s. The growth of the "supply side", it seems, was not hurt by the large deficits and debts. A government deficit leads to increased government debt (often confusingly called the "national debt" or the "public debt"). In the U.S., the government borrows by selling bonds (T-bills, etc.) rather than getting loans from banks. The most important burden of this debt is the interest that must be paid to bond-holders, which restricts a government's ability to raise its outlays or cut taxes to attain other goals.
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