Gabby Wood and Ben Guerrero's Monetary v Fiscal Policy Project
Gabby, I've been trying to study for this test and I don't understand the difference between Monetary and Fiscal Policy, could you explain it to me?
Of course I can, Ben! Fiscal Policy is when the Government alters the tax rates and alters government spending to influence aggregate demand in the economy. Monetary Policy is when the Fed changes the interest rates and influences the money supply by buying and selling bonds. This is much better for fighting inflation than Fiscal Policy because the Fed is directly taking money out of the supply.
Okay yeah yeah… and so things are changing with those policies all the time right?
Yes! Government Spending is increasing as of late, and since taxes finance that spending, the tax burden increases along with it, either now or further down the line. This leads to a “crowding out” effect. Where private spending and investment are reduced. Then, there’s the New Tax Code. The Tax Cuts and Job Act (TCJA) reduced tax rates on business and individual income and amplified incentives for investment by firms. This will raise output in the short run and long run. However, most analysts predict that the effects will be modest and offset only a portion of revenue loss from the bill.
Okay I gotcha. So then how does that relate to us Texans?
Well, the Texas economy has been changing a lot lately. Overall we’ve had moderate economic prosperity, bringing along solid growth in non-financial services, expansion in the Manufacturing Sector, and continuing rise in housing demand. In contrast to that, retail sales growth has stalled, activity in the energy sector has eroded slightly, and employment growth has slowed, with the majority of hiring firms noting difficulty finding workers. Outlooks have generally improved, though the coronavirus has definitely introduced new uncertainty into the business environment.
So what about the Fed guys we were talking about before, have they done anything for Texas?
They've been involved a little. Recently inflation was below the Federal Open Market Committee's (FOMC) longer-run objective of 2 percent. Due to this mutedinflation pressure, the FOMC lowered the target range for the federal funds rate, bringing it to the current range of 1-1/2 to 1-3/4 percent. The committee judged that this stance on monetary policy was ideal to support sustained expansion of economic activity, strong labor market conditions, and inflation returning to the Committee's 2 percent objective.
So overall that’s gonna help the Texas economy right? I heard that Monetary policy often depends on judgments and assumptions about economic variables that are inherently uncertain and may change over time. Because of this, a lot of businesses are afraid of taking action in the economy. So to deal with that fear and uncertainty, especially with the panic the Corona Virus has stirred up and potential negative economic results, the Committee seeks to explain its monetary policy decisions to the public as clearly as possible. Such clarity facilitates well-informed decision making by households and businesses, reduces economic and financial uncertainty, increases the effectiveness of monetary policy, and enhances transparency and accountability, which are essential in a democratic society. With all of that in mind, communicating this symmetric inflation goal clearly to the public helps keep longer-term inflation expectations firmly anchored, thereby fostering price stability and moderate long-term interest rates and enhancing the Committee's ability to promote maximum employment in the face of significant economic disturbances in regards to inflation and employment and the like.
Yes, I think one of their objectives is definitely to give the public clarity so they can make well informed decisions, but also just to stabilize employment and inflation. Luckily for everyone, the current Monetary and Fiscal policies support each other for the most part. They both are shooting for economic growth or expansionary policy, which is largely preventable, keeping the policies in line with one another.
Well it sounds like our economy is in a decent spot, thanks for the help Gabby.
No problem Ben! You're going to ace that test! Let's get to Economics.