Countercyclical Policies

Connections:  Countercyclical Fiscal Policies

International Markets

Reminder: 

Interest Rates are a domestic COST of borrowing and therefore high interest rates are BAD for Ig.

Interest Rates are an international DRAW for investors and therefore high interest rates are GOOD for currency inflows.

Fighting a Recession: Interest Rates Up due to Crowding Out	Fighting Inflation: Interest Rates Down (due to Crowding In—If it occurs)
D for the US Dollar will =	D for the US Dollar will =
The US Dollar will =	The US Dollar will =
US Exports will =	US Exports will =
Xn will therefore =	Xn will therefore =
The US Current Account Balance will decrease (more on this later).	The US Current Account Balance will increase (more on this later).

Connections: Countercyclical Monetary Policies

International Markets

Fighting a Recession: Interest Rates Down due to Fed Policies	Fighting Inflation: Interest Rates Up due to Fed Policies
D for the US Dollar will =	D for the US Dollar will =
The US Dollar will =	The US Dollar will =
US Exports will =	US Exports will =
Xn will therefore =	Xn will therefore =
The US Current Account Balance will increase (more on this later).	The US Current Account Balance will decrease (more on this later).

Domestic Countercyclical Policies

(Don’t say “Government”, say either Congress or the Fed)

Fighting a Recession:  Congressional Fiscal Policy

	What is the Change?
Congress can change Taxes:
or Congress can change Spending Programs:
The “C” component of AD should:
The “G” component of AD should:
Overall AD should:
(This should be graphed on the Aggregate Model)	----------
However, the Tax and Spending change will create a budget_____
In order to fund this, Congress must have bonds ____ to the public
On the Money Market Graph, Congressional actions will change this line on the graph:
The line will move:
This will cause nominal interest rates to:
This will affect Private Gross Investment:
The effect of Congress’s actions will also cause a change on the Loanable Funds Market.  First, the Supply line will move:
Also, Congress’s actions will cause the Demand line to move:	Outward (some texts)
Both of these events will affect the Real Interest Rate:
(This should be shown on the Investment Demand Graph)	----------

Fighting Inflation:  Congressional Fiscal Policy

Congress can change Taxes:
or Congress can change Spending Programs:
The “C” and “G” components of AD should:
Overall AD should:
(This should be graphed on the AD/AS Model)	----------
On the Money Market Graph, Congressional actions will change this line on the graph:
The line will move:
This will cause nominal interest rates to:
This will affect Private Gross Investment:
On the Loanable Funds Graph, the Supply line will move:
The Demand Line will also move:
Both of these events will affect the Real Interest Rate:

Fighting Recession:  The Federal Reserve Monetary Policy

	What is the Change?
The Fed will do this with the Bond Market:
On the Money Market Graph, this line will move:
It will move in this direction:
Therefore, Nominal Interest Rates will:
(This change can be shown on the Investment Demand Graph)	----------
This component of GDP will therefore change:
Therefore, AD will:
(This change can be shown on the Aggregate Demand Graph)	----------
The Fed can also do the following:	----------
Change the target rate for the Fed Fund Rate between banks:
Change the Discount Rate for banks borrowing from the Fed:
Change the Reserve Requirement within banks:
All of these will change loan availability to the public:

Fighting Inflation:  The Federal Reserve Monetary Policy

	What is the Change?
The Fed will do this with the Bond Market:
On the Money Market Graph, this line will move:
It will move in this direction:
Therefore, Nominal Interest Rates will:
(This change can be shown on the Investment Demand Graph)	----------
This component of GDP will therefore change:
Therefore, AD will:
(This change can be shown on the Aggregate Demand Graph)	----------
The Fed can also do the following:	----------
Change the target rate for the Fed Fund Rate between banks:
Change the Discount Rate for banks borrowing from the Fed:
Change the Reserve Requirement within banks:
All of these will change loan availability to the public:

  

 

As Japan Falls Into Recession, Europe Looks to Avoid It

http://mobile.nytimes.com/2014/11/18/business/international/as-japan-falls-into-recession-europe-considers-ways-to-avoid-the-same-fate.html?_r=0&referrer=

By LIZ ALDERMAN and JONATHAN SOBLE

NOVEMBER 17, 2014

PARIS — Japan looked like the model for economic revival. Growth was back on track. The stock market was surging. Inflation, which had eluded Japan for decades, was even returning.

But Japan’s grand economic experiment, a combination of fiscal discipline and monetary stimulus, is collapsing. On Monday, the country unexpectedly fell into recession, a downturn that has painful implications for the rest of the world.

Japan’s unorthodox strategy was supposed to offer a road map for other troubled economies, notably Europe. Fiscal belt-tightening and tax increases, while leaning on the central bank to pump money into the economy, was expected to help overcome a malaise.

The formula, though, has failed to ignite a meaningful recovery in Japan — and has even added to its woes. Europe must now decide whether to follow Japan’s lead by injecting more money into the economy, as the region’s central bank considers a similarly aggressive bond-buying campaign known as quantitative easing. And the United States, which just ended its own six-year stimulus effort, doesn’t offer much of a cushion should other economies stumble further.

“The United States is about the only growth beacon in the global economy right now, and that is not a very nice place to be,” said Jacob Funk Kirkegaard, an economist at the Peterson Institute for International Economics in Washington. “An American growth pickup is positive, but it looks like the rest of the world is again going to be relying on the U.S. as a consumer of last resort.”

Japan’s prime minister, Shinzo Abe, won power two years ago on a promise to pull the economy out of nearly two decades of corrosive wage and price declines. The initial response of both Japanese consumers and global investors was ebullient: The economy surged during the first few months of his administration in early 2013, and Japanese stock prices soared.

Mr. Abe’s program, called Abenomics, at first relied on a one-two punch of government spending and financial support from the Bank of Japan, the country’s central bank. The bank sharply increased its program of buying government bonds and other assets, similar to the stimulus effort recently ended by the United States Federal Reserve.

In some ways, Japan has been more aggressive than the United States. Its bond-buying program, which was expanded last month, is now bigger relative to the size of its economy than the Fed’s was at its peak.

Much of the enthusiasm for Abenomics has evaporated, however. Some economists blame a lack of action by Mr. Abe’s government in areas beyond pump-priming stimulus, such as deregulation and trade.

A turn toward tighter fiscal policy has taken the majority of the blame. Government data released on Monday showed that the country unexpectedly fell into recession in the third quarter, hampered by rising sales taxes that have discouraged consumers from spending. Mr. Abe is expected to shelve a second tax increase, lest the Japanese economy and consumer confidence erode further.

“What Japan shows is that if you have longstanding economic stagnation, having an aggressive monetary policy and even sizable fiscal reform is not going to work without deep-rooted structural reform,” Mr. Kirkegaard said. “The experience of Japan must be at the top of the minds of European leaders.”

High on the agenda is whether Europe should pursue large-scale purchases of government bonds, so-called quantitative easing.

The European Central Bank recently said it was prepared to take additional steps to revive the struggling economy, by lending more to banks and buying bonds backed by mortgages and other assets. Critics say the bank has not acted nearly aggressively enough to help revive growth, which has essentially stagnated.

The similarities between the two places is strong, which has prompted some economists to wonder whether Europe will turn into another Japan.

Europe and Japan have stuck with various versions of austerity, neither pushing ahead with deep-seated changes to their economy that analysts say are needed to revive long-term growth. Europe is also increasingly facing down the Japan-like specter of deflation as a recovery lags.

The political debate is also developing along the same lines.

A number of countries, led by France and Italy, recently balked at European Union requirements to doggedly adhere to fiscal targets and eschew stimulus spending that some economists say is critical. Some economists say that Japan’s situation only adds to the argument that fiscal belt-tightening, while sometimes needed to mend a country’s finances, hurts growth when an economy is in decline.

European politicians now widely blame austerity policies for delaying a return to growth, but Chancellor Angela Merkel of Germany is wary of loosening requirements for fiscal discipline after runaway debt levels and high deficits helped generate the eurozone debt crisis. The region’s leaders are scheduled to meet in early December to discuss further strategies for growth.

“The main implication is we are beginning to see what it might look like in Europe if we go down that road,” said Bart van Ark, chief economist for the Conference Board, referring to Japan’s recession.

“Europe has the potential to become a second Japan in terms of significantly slowing demographics, and weak per capita income growth,” he said. The Japanese experience shows that efforts to keep the economy afloat with more inflation and growth don’t help sustain higher growth in the long term. What’s needed, he said, is a “reform agenda, and that is a very difficult strategy” for politicians to pursue in any country.

The problems in Europe and Japan put additional pressure on the United States and China, which face their own headwinds.

The United States increased at a healthy 3.5 percent annualized pace in the third quarter, and unemployment has fallen below 6 percent. But troubling signs remain, including less-than-robust consumer spending and a lift from military spending that may be temporary.

China, too, is under pressure. Growth in China has cooled to 7.3 percent. While that is the envy of many countries, a slow clip by Chinese standards has raised questions about the nation’s economic health.

The disparate issues — a weak recovery in Europe, slowing growth in China and other emerging markets, as well as Japan’s failure to sustain any sort of a turnaround — have rung alarm bells in Washington.

Last week, Treasury Secretary Jack Lew said in a speech in Seattle that the United States was increasingly being relied upon to perform as locomotive for a global recovery.

“But the global economy cannot prosper broadly relying on the United States to be the importer of first and last resort, nor can it rely on the United States to grow fast enough to make up for weak growth in major world economies,” he said.

After reading the article, what events led to Japan's recession?  How does the recession affect the U.S. economy and what actions can Congress and the Federal Reserve enact so that we can avoid what Japan is going through?

Structure of the Federal Reserve System

The US Central Bank

The System was created in 1913

Board of Governors runs the system with an appointed Chairman

      The chairman is appointed by the President, approved by the Senate

      This is currently Janet Yellen

      Famous prior Chairmen:  Paul Volcker, Alan Greenspan, Ben Bernanke

12 Fed Banks control Fed actions and currency distribution in their regions:

      A = Boston

      B = New York City

      C = Philadelphia

      D = Cleveland

      E = Richmond

      F = Atlanta

      G = Chicago

      H = St. Louis

      I  = Minneapolis

      J  = Kansas City

      K = Dallas

      L = San Francisco

        

The Federal Open Market Committee (FOMC) or (OMC) is in charge

      of the buying and selling of Fed Bonds…

      BB = BB (The Fed Buys Bonds to create Big Bucks = More Money Supply)    

      SB = SB (The Fed Sells Bonds to create Small Bucks = Less Money Supply)

The Federal Deposit Insurance Corporation (FDIC) has members of most banks in the US and helps manage operations of member banks.  It also insures deposits of the private sector that are place in the banks

The Fed has many “tools” to help run the US banking and money supply systems.

      The main tools are the:

The buying and selling of Bonds

      The Fed Fund Rate Target

      The Discount Rate

      The Reserve Requirement

Interest Rate Basics

Fed Funds Rate

      FDIC member banks loan each other overnight funds in order

      to balance deposit accounts each day.  The interest rate they

      use to loan each other this money is the Fed Fund Rate.

      The Federal Reserve "targets" this rate by suggesting its

      raising or lowering and uses bonds to accomplish the targets.

      The Federal Reserve measures the rate in "basis points".

      100 basis points = 1%.

(LIBOR

      The London Interbank Offered Rate is used worldwide to help

      establish loans between banking institutions.  Being used more in

      newer texts and functions like an international FFR.)

Discount Rate

      FDIC member banks, and other eligible institutions, may borrow

      short term loans directly from the Federal Reserve.  This is

      the "discount window", and is set above the Fed Fund Rate.

      Banks do not like to use the window, since it appears to be

      a move of "last resort" to have to turn to the federal government

      for loan funds.  The FOMC sets the Discount Rate.

Prime Rate

      This is the interest rate banks charge their most "credit

      worthy" borrowers.  Historically, the prime rate, in the US,

      has been set about 3% above the Fed Fund Rate.

                 

Private Rates

      These loan rates are set by supply and demand, the abilities

      of companies to loan out private monies, and subsidized

      federal monies.  Examples would include car companies

      "selling" "zero interest" loans, special student rate loans, etc.

      When companies use these tactics, they hope to regain

      profit with time limits to the special rates, less bargaining on

      the overall product price, heavy late payment fees, etc.

      Any rate below the Fed Fund Rate probably has some kind

of financial trick attached to the contract.

Connections:  Countercyclical Fiscal Policies

Domestic US Market

Always conducted by ____________

Fighting a Recession:	Fighting Inflation:
Policy Name =	Policy Name =
Taxes =	Taxes =
Gov. Spending =	Gov. Spending =
Budget Result =	Budget Result =
Aggregate Model:	Aggregate Model:
C should =	C should =
G should =	G should =
AD should =	AD should =
Money Market:	Money Market:
DM will=	DM will=
i should =	i should=
(Ig on Aggregate Model will)=	(Ig on Aggregate Model will)=
Loanable Funds…Market:	Loanable Funds…Market:
The budget issue will cause:	The budget issue will cause:
S LF =	S LF =
DLF =	DLF =

Connections: Countercyclical Monetary Policies

Domestic US Market

Always conducted by _____________

Fighting a Recession:	Fighting Inflation:
Name =                   or	Name =                 or
Bonds =	Bonds =
FFR Target =	FFR Target =
DR =	DR =
RR =	RR =
Money Market/Loanable Funds:	Money Market/Loanable Funds:
MS should =	MS should =
Bank Loans =	Bank Loans =
i, r should =	i, r should =
Aggregate Model:	Aggregate Model:
Ig should =	Ig should =
AD should =	AD should =

Crowding Out

What is it?	A critique and flaw of ­­­­­­­­­­­­­­­­­­­­­­­__________________ policies that are applied to fight a recession. (An expansionary policy!)
Why does it happen?	The policy of cutting ___ and raising ____ will create a budget deficit.
So?	The budget deficit must be funded and to do this ________ orders the sale of US bonds. (This is NOT a Monetary Policy tool used by the Fed)
This money comes from?	Mostly from US citizens and companies and investment firms.
Therefore?	Money that could be spent on Consumption or used for Private Savings is now being used to _____   ________.
On the Money Market?	This will cause the ___________ curve to shift __________. Remember this is a Fiscal event!
On the Loanable Funds Market?	This will cause the ___________ curve to shift __________ because we are not Saving money privately any more.
Also, on the Loanable Funds ?	This can cause the ___________ curve to shift __________ because the private and public demand for $ ____________.
On both graphs?	The nominal and real _____ rate will ______.
Therefore, on the Investment D graph	The _______ in nominal and real ___________ rates will cause Ig to ____________.
Isn’t this counterproductive?	Yes.
Why do it?	Fiscal Policy supporters (Keynesians) insist that gains in ____ and _____ will outweigh any loss in future ____.
Why?	____ and _____ are greater than _____ and they are Short Run improvements.  _____ is longer run and Keynesians don’t worry about that.  In the long run we are all ______.
Anymore?	Yes, this is summarized on the Aggregate Model.  The AD will move outward due to the increases in ____ and ____ and then “maybe” move inward due to a loss of ____, but not as much as the increase.  Therefore the economy improves.