Unit 4 - Eocn

What happens when you deposit money into a bank?

• Banks lend out your savings

• Charge high interest on your money that they loan out

• Pay you low interest on you deposit

Fractional Reserve Banking

• Banks keep a small portion of your deposit at the bank

• Loan out the rest

• Banks put money in circulation & provide a crucial role in the economy

Bank Run

When all the clients asked for all of their money back at the same time.

Causes:

• Failing assets. When depositor worry that the bank will lose their money.

• Word of mouth about a potential collapse causes hysteria over a bank failure. causes

What is the Federal Reserve System?

• The Central Bank acts like the bank for banks.

• Created by Congress. Referred to as “the Fed”

• Different from the FDIC. (The FDIC is to manage bank failures)

What is the Federal Reserve’s “Dual Mandate”

1) Maximum employment: There isn’t a fixed target. Some unemployment is always expected.

2) Stable Prices: The Fed target 2% inflation.

Monetary Policy

• Actions the Fed uses to control the money supply & influence the economy.

• Change the interest rate toward banks, which impacts the overall interest rate.

Easy Money Policy.

When does the Fed Use It?

Use during a recession.

EMP:

• Lower interest rates

• Expand the money supply

• Increase demand

• Create jobs/ reduce employment

• Promote economic growth

Tight Money Policy.

When does the Fed Use It?

Use during an inflation.

TMP:

• Higher interest rates

• Contract money supply

• Decrease demand

• Slows business activity

• Stabilize prices

Fiscal Policy

Who makes fiscal policy?

When the gov uses taxes and spending to try to influence the overall economy

Expansionary Fiscal Policy.

Why would the gov use it?

Goal: Stimulate economic growth

Tools: Increase gov spending, increase tax cuts/ reduce taxes

Effects: Raise aggregate (overall) demand, reduce unemployment during recession.

Contractionary Fiscal Policy.

Why would the gov use it?

Goal: Reduce inflation & slow down economic activity

Tools: Decrease gov spending, increase taxes.

Effects: Lower aggregate (overall) demand, potentially controls inflation.

What are the limitations of fiscal policy?

1) Time/decision lags. Doesn’t work instantly

2) Political constraints. Decisions leads to future elections.

Fiscal policy is a key economic tool; it’s not always precise or fully effective.

What is the overall goal of both monetary and fiscal policies?

In short: stabilize & strengthen the economy.

• Promote economic growth

• Maintain low & stable inflation

• High employment rate

• Smooth business cycle

Overall:

• Fiscal policy: taxes and government spending

• Monetary policy: control of money supply and interest rates

Deficit vs. National Debt

Deficit: The amount we overspend each year.

• Tax revenue coming into gov is smaller than how much they spend

• Opposite: Surplus.

National Debt: Total amount owed by the nation. (All years of deficits)

• $39 trillion in debt.

Debt Celling

• Debt limit. Max amount the gov can borrow.

• Attempt to stop gov from borrowing too much.

• Congress has the power to raise debt ceiling.

Mandatory vs. Discretionary Spending

Mandatory: Spending that is require by law. Automatically each year without needing Congress approval.

• Social Security

• Medicare

• Medicaid

Discretionary: Must be approved annually through the budget process. Adjust based on priorities.

• Military funding

• Education programs

• Transportation

How can the fed decrease the national debt?

The Fed does not directly control national debt.

Indirectly they can:

• Lower interest rates. Making it cheaper for gov to borrow.

• More tax revenue.

• Cut spending.