The Federal Reserve is responsible for regulating the U.S. monetary system and setting monetary policy. Monetary policy refers to what the Federal Reserve does to influence the amount of money and credit in the U.S. economy. Policy instruments that affect the quantity of money and credit affect interest rates (the cost of credit) and the performance of the U.S. economy.

The Federal Reserve’s three instruments of monetary policy are open market operations, the discount rate and reserve requirements. The Fed controls the money supply primarily through open-market operations.

Board of Governors of the Federal Reserve System. (n.d.). Retrieved from http://www.federalreserve.gov/

Based on the above summary and the detailed descriptions of monetary policy issues in the textbook (Chapter 34 and Chapter 36) discuss the following questions.

• What are the expansionary monetary policy and contractionary monetary policy? What are their policy instruments? How are they used to deal with the inflationary gap and recessionary gap? Which do you think is more appropriate today?
• If the Fed wants to increase aggregate demand, it can increase the money supply. If it does this, what happens to the interest rate and rate of inflation? Why might the Fed choose not to respond in this way?
• Should monetary policy be made by rule rather than by discretion? Why?
• The only thing backing up a nation’s currency (fiat money) in the modern world is faith in the government issuing it. If this is so, what should governments do to maintain a stable currency? How can the Central Bank (the Federal Reserve) build trust in the U.S. currency? What actions would undermine a currency?

Do the discussion first with citation and references then do the response each posted

Posted 1

In economics, monetary policies are acts made by a country's central bank to manage the money supply in order to acquire control over the economy. Increasing the money supply in an economy is one of the strategies that central banks can employ to prevent a recession or depression from taking place. Contractionary monetary policies, on the other hand, limit the money supply to combat conditions such as inflation (Dean et al., 2020). Open market operations, discount rates, and federal regulations are the three primary weapons that central banks utilize to affect change in the economy.

Contractive monetary policies, such as selling government assets through open market operations and raising the needed federal fund rate and discount rate, can be used by the Federal Reserve to deal with inflationary gaps. As a result, the amount of money in circulation in the economy decreases, and commodities prices generally decline. Expansionary monetary policies, which involve increasing the money supply, are used to close the gaps created by recessions (Dean et al., 2020). Specifically, this is accomplished by lowering the needed federal funds rate, acquiring government assets, and lowering reserve requirements. These modifications make it possible for commercial banks to have more money available to lend to individuals, hence increasing the amount of money in circulation. Discount rates are the most effective strategy since they directly convey the effect to the general public. When discount rates are high, borrowing costs for the general public are high, and the opposite is true when discount rates are low. The interest rate is lowered when the money supply is increased. Considering that interest rates represent the cost of retaining funds when funds are in surplus, the cost of retaining funds is lower.

Inflation is caused by an increase in both the money supply and interest rates (Batarseh, 2021). This is due to the enormous number of purchasers who are all competing for the same items on the market. As a result, the makers of these commodities raise the pricing of their products. The Federal Reserve can choose not to increase the money supply because doing so may result in inflation. Instead, it could opt to allow the forces of demand and supply to bring the economy back into balance on its own. Because economic features are dynamic rather than following rules, monetary policies should be decided on a discretionary basis rather than following rules. Therefore, flexible policies, rather than confining regulations, are required.

Posted 2

This specific discussion differs from the first one in that it covers monetary policy as opposed to fiscal policy. The difference being that monetary policy is primarily concerned with interest rates and the total money supply whereas fiscal policy applies more specifically to taxation and government spending. Expansionary and contractionary monetary policy involve increasing or decreasing the supply of money respectively (McConnel 2018). EMP leads to increases in bond prices and reduces interest rates. This of course leads to higher levels of capital investment. CMP works to do the opposite in this case. Decreasing the money supply leads to higher demand for a domestic currency while increasing the supply leads to a decreased demand for it. It is difficult to say with certainty which policy would be best to utilize in the unpredictable pandemic economy. With that, it seems increased interest rates via a contractive monetary policy would be most effective in mitigating the extreme period of hyperinflation the country is experiencing.

If the Fed wants to increase aggregate demand, it can increase the money supply. As a result, the larger money supply will theoretically lead to lower interest rates, making it easier for consumers to borrow. However, with the increased money supply also comes an increased rate of inflation (Cornell 1982). The Fed needs to be careful then in doing such things as increasing the money supply is a double-edged sword.

Monetary policy made by rule would lead to higher predictability and consistency. However, discretionary policy limits the overall power of the Fed. And rather allows for more flexibility for the given period. It seems that neither rule nor discretionary policy making is perfect, and thus, the necessity for some combination of both is made evident.

The only thing backing up a nation’s currency is the modern world’s faith in the government issuing it. The United States did not always exchange fiat currency, but instead had their currency tied to gold. Nowadays, our dollar value is tied to nothing. Because of the this, the Fed and Central Banks can inflate the dollar, cut off the money supply, cause corrections in the market and so on. The reality is, the way the current monetary system is built around debt, interest, and inflation, it would seem there is hardly any reason to believe in the value of a paper dollar. Banks and other major institutions can try and keep their prices stable and predictable to create a feeling of reliability, but ultimately, the value of the dollar will continue to diminish with time none the less.

The rise in value and use of cryptocurrencies is indicative of the world’s growing distrust in government-controlled currency. People are recognizing the value of having incorruptible, blockchain backed money that operates independent of general market conditions. Ultimately, bitcoin eliminates the need for banks, credit card fees, transfer fees, and more. It is slated to not only revolutionize money and economics, it will hopefully transform the role and nature of government as a whole. It is the beginning of something great, a currency without government.

Posted 3

Expansionary monetary policy increases the supply of credit in the economy, which hopefully will increase aggregate demand and real output (McConnell, Brue, & Flynn, 2018). The mortgage debt crisis in 2008 changed the way that expansionary monetary policy is done. Now, the primary method is quantitative easing, which has the Fed’s buying bonds with the intent on increasing the reserves in the banking system. Lowering the interest rate is also another tool, but they need to be careful about not making it a negative rate. Contractionary monetary policy is designed to reduce aggregate demand and lower the rate of inflation (McConnell, Brue, & Flynn, 2018). This is done by raising the interest rate on excess reserves, and conducting reverse repos, which is buying back the money that “non-banks” would have been lending. Until the economy has fully recovered and been weaned off federal handouts, I think we should continue to employ the expansionary monetary policy that has been in place.

If the Fed increases the money supply to increase aggregate demand the interest rates will decrease, and inflation increase. This would normally be done in times of recession, but one of the issues could be a change of interest rate to a negative number. If we weren’t in a recession, or we were on the latter edge of recession, this would not likely be the Fed’s response.

There is some who believe that aggregate demand management is misguided and causes more instability than it cures (McConnell, Brue, & Flynn, 2018). With a set of rules in place, economic stability can be the outcome rather than discretionary adjustments that either create a surplus or deficit. This “growth without inflation or deflation” method can eliminate the ups and downs and uncertainty of the constant discretionary adjustments.

Increasing or decreasing the amount of money (controlling the supply) is the only thing the government can do to maintain stable currency. Having policies in place that stabilize interest rates and inflation are the ways of doing this. Avoiding drastic reactions to world and current events will help keep things stable. If there are political actions that cause instability in the government, the currency would be weakened, and if the issues were severe enough, could undermine the currency.