IHS News

News From Around The World

Macroeconomic Policy Tools and The State of the US Economy

Macroeconomic Policy Tools and The State of the US Economy

Macroeconomics is a branch of economics that deals with the structure, behavior, and the performance of the economy in its entirety. The major goal of macroeconomics is to achieve price stability, economic growth, full employment and external balance. The United States economy has not been doing well in the recent past. Statistics from the Federal Reserve indicate that the economy grew by a mere 1.7% in the year 2009 and although everyone attributed the dismal growth to the infamous economic recession of 2008, things are not looking any better this year. Unemployment rates stand at a high of 9.6% and the consumer price index rose by 0.3% in August alone. The balance of payments deficit in the economy is actually negative.

There are several macroeconomic tools however, that can be used by the Federal Reserve to remedy the situation. The government needs to put in place measures to stimulate aggregate demand, aggregate supply and economic growth and development. To this end, the Federal Reserve could employ both expansionary fiscal and monetary policies to attain these goals. These tools work differently but the overall result is that economic growth is stimulated as a result of increase in aggregate demand due to increase in disposable income.

Fiscal Policies

There are several fiscal policies used by the federal system. These include taxes, government spending and government debt. Expansionary fiscal policies are required to stimulate economic growth from the 1.7% attained last year. Tax cuts, increase in government spending on national projects or government borrowing from abroad all serve to increase the money supply in the economy. By cutting on both personal and business taxes, the disposable income increases and thus individuals have more to spend on goods and services.

Increased disposable income leads to increase in aggregate demand in the economy. Producers respond by increasing their output to meet this growing demand. The result is that the economy grows and also the level of employment improves since more factors of production are required to produce the extra output. The other two fiscal policies give similar results. Increased government spending will increase the amount of money in circulation in the economy and consequently aggregate demand increases.

Monetary Policies

With an economic growth of 1.7% and a relatively low inflation rate of 1.1%, the Federal Reserve should increase the amount of money supply in the economy so as to increase aggregate demand and stimulate economic growth and employment levels through the above manner.

Several tools are employed in the expansionary monetary policies. These include open market operations; cash reserve ratio, Federal Reserve lending rates and cash ratio. Open market operations –in this case, the federal state buys back securities held by the public thus increasing the amounts of money balances at their disposal.

Cash ratio- this is the amount of money held by the Federal Reserve in custody for the commercial banks. By reducing this amount, the commercial banks will have a lot of money to give out as loans increasing the amount of money in circulation in the economy.

Federal Reserve lending rates- By reducing the lending rates to the commercial banks, the banks are able to reduce their interest rates prompting more people to take up loans. Others are moral suasion and selective lending. The overall impact of the increased money supply is similar to the expansionary fiscal policies and thus economic growth and employment levels will improve.

Reference

Blanchard O. (2000). Macroeconomics, New Jersey: Prentice Hall

Leave a Reply

Your email address will not be published.