We hear a lot about the Federal Reserve raising the Federal Funds rates, but what are they doing to try to combat inflation? To answer this effectively, a couple of definitions would be helpful so that we are all understanding the same terms.
Per Wikipedia and Investopedia on the internet, “monetary policy is used by the Central Bank to control the overall money supply to promote economic growth and employment strategies… and it does so by altering the reserve requirement, the discount rate and open market operations.”
Fiscal policy is used by the Federal government which increases or decreases taxes and Federal spending to either cool off an overheated economy or to stimulate a sluggish economy. Spending more is popular with politicians and the public however, and those who seek to remain in their elected positions use taxes and spending to their own advantage (ever heard of pork barrel politics?).
So, which is the more powerful set of tools, monetary or fiscal policy? In their pure forms both can be equally effective, controlling inflation and promoting a healthy economy which includes a stable money supply that isn’t inflationary.
However, the “experts” don’t always agree (in fact, rarely do they). It’s kind of like rooting for your team in the Superbowl, each believes their approach will win the day. But in fact, both are powerful for controlling the economy and inflation.
Regarding Fiscal policy, wouldn’t it be great if the government had to operate like you run your household…don’t spend more than you make. And then when the government spends taxpayer money, my belief is that it should only fund programs which benefit all the people (national defense, construction/repair of roadways, air traffic control).
Programs which only benefit a few people shouldn’t be funded by taxes (welfare, tuition payoffs, incentives which only benefit a minority of people). Those should be funded by charitable organizations funded with voluntary contributions.
Monetary policy is meant to limit the money supply to prevent superheating the economy with overly abundant amounts of money. But regrettably the President and the Department of the Treasury can authorize the printing of more money to increase the money supply because that kind of action is popular.
My belief is that there should only be new money printed to replace the damaged bills which will have an equaling effect on the money supply. When the government manipulates the money supply by buying or selling bonds the natural market forces which keep the economy balanced are then out of sync.
Left alone. the market will and does balance itself out, but impatient politicians want to tinker with the market to hurry the process which they then can take credit for doing something.
So, let’s take this discussion to real estate. The government bought up bonds to keep the mortgage interest rates artificially low to make home purchasing easier for more people. When the government quit purchasing bonds, mortgage interest rates climbed sharply.
The governmental decision to buy bonds set up the current inflationary spike which has stubbornly held above target inflation rates. Trying to help the economy so politicians could boast about who helped right the economic ship, more long-term harm was done as we now have wages and salaries with significantly diminished buying power.
How do we then turn our economy around? Speaking simplistically, quit raising the Federal Funds rate trying to make inflation go away. Quit overspending at the Federal government level, quit adding dollars to the money supply, quit funding special interest programs; in other words, we need to live within our means.
The aggregate of these activities will put more money into people’s pockets, they will allow the government to lower taxes and make it easier for new home buyers to save for a down payment on the home that they want to purchase. Home prices aren’t going to go down but being able to save for a healthy down payment will create more home buyers.