contemporary economic issues (Essay Sample)

Contemporary Economic Issues Name Institutional Affiliation Contemporary Economic Issues After the Great Economic Depression in the 1930s, macroeconomists, government policy makers and many other experts in the economic front put an end to peaceful moments in the economic endeavors until 2008. The financial crisis rudely entered into the economic arena and has since then affected most of the businesses in the globe. The effect is that most of the businesses and other operations failed to prosper because of the hiking prices of goods and services thereby increasing the costs of production in the financial sectors and other sectors in the economy. Former Fed chairperson termed it a “once in a century credit tsunami.” It began in 2007 with high priced homes that the US started losing their luster in the market. It spread into other markets in the U.S and finally to the other parts of the world like a contagious disease. The investors in the banking industry, government charted mortgage-lending enterprises, loaning banks, and commercial banks, all in American soil, are the causalities of the crisis (United Nations, 2009). The carnage did not limit itself to the financial institutions only; it spread fast to too many companies, which relied on credit from the plagued credit facilities. The financial crisis of 2008 has caused macroeconomists to revisit monetary and fiscal policies. This paper seeks to explore the policies, which must have contributed, to the crisis, monetary policies, and the effects that the implemented policies have had on the hurt economy. The Federal Reserve deploys monetary policies to influence and regulate the amount of credit and money in the American economy. Any fall or rise in the amount of credit or money in the US market affects the cost of credit, which in the end drastically affects the economy (Poor, 2009). In other words, in the event that the money reduces the cost of credit lending institutions, many businesses will borrow and the economy will heat up again. How Fed Influences Monetary Policies The Fed influences the U.S economy in three ways. Topping the list is the use of Open Market Operations. The principal behind this is buying and selling of government securities by Fed. The major goal of doing that is to regulate reserves in the banking industry. When reserves accumulate to high levels, the Fed sells the securities to the banks. It buys them back when banks are nearly depleting their reserves (Tumnong, 1991). Open Market Operations (OMO) are the principal tool of trade in monetary policies. It regulates the rate at which banks borrow from each other. Fed does not entirely decide on which securities to sell; there has to be competition among primary security dealers. Another way Fed regulates monetary policies is by using discount rates. It alters the interest rate the banks can pay on short-term loans the banks borrow from Federal Reserve Bank. This is an indispensable aspect of monetary policy because it makes visible announcements. The banks can use the announcements as a platform of understanding Fed’s plans and make adjustments accordingly. Setting of amounts of reserves banks can have in possession is the third and last way that Fed uses to regulate monetary policies. The reserve requirement is usually 10%. The banks have a maximum they can raise from loans. According to this requirement, depository institutions can have a certain sum of physical cash in their possession at a point in time (Congressional Budget Office, 2010). Monetary and Fiscal Policies that must have Caused the 2008 Financial Crisis The crisis began with the collapse of the overrated housing industry, which in turn led to perpetual defaults in the mortgage-backed industries. It was coupled with excessive monetary expansion and “don't care” attitude from government sponsored money credit lending institutions. The correct the mess the Fed tried to cut down its excessive monetary expansion by tightening interest rates. The process of raising the interest rates went too far straining the capital base of many businesses. The monetary policy of reserves being kept at the Federal Reserve is partly responsible for the inflation experienced. Every bank is obligated by law to keep a certain percentage of deposits in the Federal Reserve. Fed, unlike other institutions, has a unique ability to make any purchases it so desires, using the reserves at its disposal from the banks (Congressional Budget Office, 2010). All it does is notifying banks to increase their deposits. More reserves translate to more money on loans and investments. In the process, money ends in circulation, thus, bringing inflation. Inflation was one of the culprits in the...