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Macroeconomics
Lecture 20
Monetary Policy
Chapter 16
Questions?
Two Objectives
Unemployment
Inflation
Reserve Ratios
Reserve Ratio Multiplier
United States 3% 33.33
China 17% 5.88
Phillipines 20% 5.00
South Korea 7% 14.29
Japan 0.8% 125.00
Banks Borrow?
From each other
Federal Funds Rate
From the FED
Discount Rate
FED
Federal Funds Rate 1.25%
Discount Rate 1.75%
The Discount Rate is
usually higher than the
Federal Funds Rate
Discount Rate
Currently 1.75%
Average 4.45%
(1950 - 2017)
Federal Funds Rate
Currently 1.25%
Average 4.90%
(1950 - 2017)
Discount Rate and
Federal Funds Rate
Price
Level
Real GDP orY
AD-AS Model
18
Long Run
Aggregate
Supply
Short Run
Aggregate
Supply
19
Aggregate
Demand
17
Inflation
Monetary Policy - Contract
Increase Discount Rate
Increase Reserve Ratio
Sell Securities
Reduces Money Supply
Monetizing the Debt
FED buys U.S.
Treasuries
Federal Reserve Bank
U.S.Treasury
Bonds for Dollars
Monetizing the Debt
New Cash
Inflation
Monetizing the Debt
New Cash
Inflation
Bank Capital
The money the
bank’s shareholders
have put in to the
bank
Leverage
OPM
Other People’s
Money
FED
Quantity of Reserves
FED
Reserve
Interest
Rate
%
Supply
FED Rate
5%
7%
3%
10 155
Illiquid
No cash
Net worth to pay debt, but can’t
sell quick and without loss
Insolvent
No cash
No net worth to pay debt
Illiquid
Assets are frozen
Quantitive Easing
Buying lots of other
financial instruments.
Lots of illiquid assets
Lender of Last Resort
Bailouts
0%
1%
2%
3%
4%
5%
6%
7%
8%
9%
10%
11%
12%
13%
14%
15%
0 2 4 6 8 10 12 14 16 18 20 22 24 26 28 30
Time to Maturity
Interest
Rate
FED Changes
Discount Rate
Other Rates
Follow
Pattern?
P2
P3
Price
Level
Real GDP orY
AD-AS Model
18
Long Run
Aggregate
Supply
Short Run
Aggregate
Supply
19
P1
Aggregate
Demand
17
Unemployment
Inflation
Recession
Central Banks
Independent
Political
Pressure
Accountable
Who do they
answer to?
Chapter 17
The Federal Budget:
Taxes and Spending
Tax Revenues
Income Taxes
Social Security Taxes
Other
Types
Per Head
Flat
Regressive
Progressive
Types
Income
Sales
VAT
Property
Deficits and Debt
Government
Spending and
Revenue
Deficit
Spending greater
than revenue
Balanced Budget
Spending exactly
equals revenues
Surplus
Revenue greater
than spending
Debt
Accumulated
deficits
Debt
$15 trillion
$45,455 per person
Why would you want
government to go into
debt?
Don’t have to pay
Future larger economy
Debt
Investment
Only if the return is
higher than the
interest rate
Debt
Investment
Only if the return is
higher than the
interest rate
How to reduce deficits
Higher taxes
Lower spending
Entitlements
Guaranteed benefits
1960 - 20%
2017 - 60%
Interest Expense
$240 billion
2.0% current rate
6.2% historical
1962-2017
Solution to Debt
Economic Growth
Exam 3
Chapters 13-17
Thursday and Friday
March 29 and 30

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