Without a doubt, the recession that began in December 2007 has shaken up our perspective on the economy. Beyond the pressing issues facing Americans who have lost their jobs or their homes, the outcome of this recession centers on changes in the monetary and fiscal policies that underlie our economy.
What do these factors mean to you?
Fiscal vs. monetary: Monetary policy involves actions of the Federal Reserve as it relates to the money supply to support economic growth and control inflation (usually opposing forces). Fiscal policy involves decisions by Congress and the Administration regarding federal budgets, spending, taxation and deficits.
Growing national deficit: The national deficit has nearly doubled in the past decade to $11 trillion today. Future generations will face increasing tax burdens — and potentially less personal wealth — as that bill comes due.
Tighter inflation controls: The Federal Open Market Committee at its December meeting established the lowest-ever target federal funds rate of 0 to 0.25 percent. Rates have not been this low since the rate began to be tracked in 1955, when a postage stamp cost 3 cents and a brand-new Corvette could be had for $2,774. Future rates will remain very low to encourage the flow of funds and greater economic activity.
Increased federal investment in the market: To support the financial markets, the Federal Reserve is buying securities (bonds) for which little market exists. A bond is simply a loan, with an associated principle (face value), interest rate (yield) and repayment schedule (term). When the Federal Reserve purchases these securities, two things occur: The money used to buy the assets is released into the marketplace to be used for lending and other economic activity. Also, the act of buying these securities improves the marketability of these securities and raises their prices. As prices go up, yields, or interest rates, go down.
Featured in the Spring 2009 issue of The Vectra Vault.
*Artwork from franckie under Creative Commons license at Flickr.com.
