Sunday, November 25, 2007

Response to Question: What are the best goals for the FED? Should it lean toward restraint or toward expansion?

In the economy, many questions are asked on what the U.S. should do to have an economic growth. Economists argue back and forth on the topic of what will expand the economy and what will make it go into a recession. Some economists believe that restraint will lead to monetary expansion and that was evident in January 2001 when the Fed lowered it's rate from 6.5 to 3.5 percent. Other economists believe that expansion and not holding back will lead to an increase in the grow of the economy. In this case, interest rates were increased which caused costs to rise and will result in an expansion.
The side that has the stronger case is the restraint because it focuses on the present rate of the economy and not what canh happen in six months. When lowering the Fred Funds Rate, the costs decrease and the cost of living declines too causing price to go down. When there is a restaint occuring it steadies out the economy as the costs decrease and production increases and a high stress economy is an after thought. The average fed funds rate in January was almost 6 percent, well above many market interest rates, while the Treasury's 30-year bond was just 5.5 percent, and all bonds with shorter maturities were even lower. This means that banks cannot borrow Fed funds and relend them with a profit; causing monetary policy to be unavoidable. At this point monetary policy finally became expansive, and the money supply began growing. The strategy to lower the fed funds rate and have a restraint causes a monetary expansion and the economy grows.

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