Thursday, January 15, 2009

So what is the government doing to help?

The state of economy significantly impacts your life.  You've probably have to make some kind of change in your life because of the current deteriorating economy, so it is important to know how the government plans on fixing it.  The government has two methods of stimulating the economy: monetary and fiscal policy.

Fiscal policy, in short, are those policies that involve taxes and government spending.  The "bailout" programs you have heard about fall under this category.

Monetary policy, in short, is the lowering and increasing of the Federal Reserve's interest rates.

So how do you set these policies to help our economy?  Well for fiscal policy, lowering taxes means people have more money to spend, which stimulates the economy. The second part of fiscal policy is spending money.  The government spends money by setting up projects for America.  For example, the government might decide to pay to have new roads put up all over America.  First, you need people to build those roads, thus government spending creates jobs.  More jobs are always better for the economy because it gives people money to spend.  Additionally, the government will need to get the tar, trucks, and various other supplies for building those roads.  These supplies will need to be bought from businesses throughout America, which helps out America's lagging businesses.  President-elect Obama plans on spending hundreds of billions of dollars on infrastructure (building roads, electrical grids, new water supplies), which will help out the economy.

The second policy is monetary policy.  Monetary policy is controlled by the central bank, which in our case is the Federal Reserve.  The Federal Reserve's most important job right now is the lowering the interest rates.  When the Federal Reserve lowers interest rates, local banks lower the interest rates they give out on their loans (more about why Fed rates dictate bank rates).  When interest rates are low, businesses can afford to take out loans and can use the money to expand and grow their business.  When businesses are growing, they create more employment and when they are able to access the money they need, they can prevent from bankrupting.  Small businesses are able to start up because they can acquire loans, which create even more jobs.  Also, when interest rates are lowered by the Fed, banks lower the rate they are willing to give people for investing their money into the bank.  For example if Bank of America offered 4% interest for anyone putting money into their savings account, and the Fed lowered interest rates, Bank of America might only now give a 2% interest rate for the savings account.  The lower interest rates are, the less incentive people have for putting money into banks and more incentive they have for spending it. As consumer spending comes back, so will the economy.

So that is what the government is doing to help the economy recover.  I will be talking more about the Troubled Assets Relief Program (TARP), which is all the "bailout” talk you hear, in an upcoming post!

No comments:

Post a Comment