Text 1. Federal Reserve System

Date: 2015-10-07; view: 350.

DISCUSSION: Eliminating the economic recession

Possible characters:

1. Independent analysts.

2. Keynesians.

3. Followers of laissez-faire economics.

4. Average consumers.

5. Representatives of building construction companies.

6. Large manufacturers of different goods.

7.People responsible for including items in CPI.

UNIT 4: MONETARY POLICY

Although most economists accept Keynesian theory in its broad outlines, they disagree on its political utility. Some especially question the value of fiscal policies in controlling inflation and unemployment. They feel that government spending programs take too long to enact in Congress and to implement through the bureaucracy. As a result, jobs are created not when they are needed, but years later, when the crisis may have passed and government spending needs to be reduced.

Also, government spending is easier to start than to stop because the groups that benefit from spending programs tend to defend them even when they are no longer needed. A similar criticism applies to tax policies. Politically, it is much easier to cut taxes than to raise them. In other words, Keynesian theory requires that governments be able to begin and end spending quickly, and to cut and raise taxes quickly. But in the real world, these fiscal tools are easier to use in one way than the other. Both Ronald Reagan and George Bush made taxes such an issue that tax increases can no longer be considered a viable instrument of economic policy in contemporary politics.

Monetarists, recognizing the limitations of fiscal policies, argue that government can control the economy's performance effectively only by controlling the nation's money supply. Monetarists favor a long-range policy of small but steady growth in the amount of money in circulation rather than frequent manipulation of monetary policies.

Major monetary policies in the United States are under the control of the Federal Reserve System,which acts as its central bank. Established in 1913, "the Fed" is not a single bank but a system of banks. At the top of the system is the board of governors, seven members appointed by the president for staggered terms of fourteen years. The board is directed by a chair, designated by the president, who serves a four-year term that overlaps the president's term of office. This complex arrangement was intended to make the board independent of the president and even Congress. An independent board, the reasoning went, would be able to make financial decisions for the nation without regard to political implications.

The Fed controls the money supply, which affects inflation, in three ways. It can change the reserve requirement, which is the amount of cash that member banks must keep on deposit in a regional Federal Reserve Bank. An increase in the reserve requirement decreases the amount of money a bank has available to lend. The Fed can also change its discount rate, the interest rate that member banks have to pay to borrow money from a Federal Reserve Bank. A lower rate encourages a member bank to borrow and lend more freely. Finally, the Fed can buy and sell government securities (such as U.S. Treasury notes and bonds) on the open market. When it buys securities, it pays out money, putting more money into circulation; when it sells securities, the process works in reverse.

The Fed's activities are essential parts of the overall economic policy, but they lie outside the direct control of the president. This can create problems in coordinating economic policy. For example, the president might want the Fed to lower interest rates to stimulate the economy, but the Fed might resist for fear of inflation. These kinds of policy clashes can pit the chair of the Federal Reserve Board directly against the president. This happened early in 1991, when President Bush publicly criticized the Fed for not taking action to lower interest rates. When the Fed finally did cut its discount rate to encourage banks to lower interest rates in the spring of 1991, some analysts felt that the cut came partly in response to Bush's criticisms. Although the Fed's economic policies are not perfectly insulated from political concerns, they are sufficiently independent so that the president is not able to control monetary policy without the Fed's cooperation. This means that the president cannot be held completely responsible for the state of the economy—despite the Employment Act of 1946.

When Reagan came to office in 1981, he embraced a school of thought called supply-side economicsto deal with the double-digit inflation that the nation was experiencing. Remember that Keynesian theory argues that inflation stems from an excess of aggregate demand over supply, and the standard Keynesian solution is to reduce demand (for example, by increasing taxes). Supply-siders argued that inflation could be lowered more effectively by increasing supply. (That is, they stressed the supply side of the economic equation.) Specifically, they favored tax cuts to stimulate investment (which, in turn, would lead to the production of more goods) and less government regulation of business (again, to increase productivity—which they held would yield more, not less, government revenue).

To support their theory, supply-side economists point to a 1964 tax cut that was initiated by President Kennedy. It stimulated investment and raised the total national income. As a result, the government took in as much tax revenue under the tax cut as it had before taxes were cut. Supply-siders also argue that the rich should receive larger tax cuts than the poor, because the rich have more money to invest. The benefits of increased investment then "trickle down" to working people in the form of additional jobs and income.

In a sense, supply-side economics leans toward laissez-faire economics in the form of less government regulation and less taxation. Supply-siders believe that government interferes too much with the efforts of individuals to work, save, and invest. This is what Ronald Reagan thought when he was a movie star in the 1950s, with a salary in the 91 percent tax bracket. In his 1965 autobiography, he wrote that because the government took so much of his income, he quit working for a year after he moved into that bracket. Obviously, he hadn't changed his mind about taxation when he entered his first term in office. After succeeding Reagan in the presidency, George Bush demonstrated a similar opposition to taxation.

Inspired by supply-side theory, Reagan proposed (and got) massive tax cuts in the Economic Recovery Tax Act of 1981. Individual tax rates were reduced by 23 percent over a three-year period, and the tax rate for the highest income group was cut from 70 to 50 percent. Reagan also launched a program to deregulate business. According to the theory, these actions would generate extra government revenue, making spending cuts unnecessary. Nevertheless, Reagan also cut funding for some domestic programs, including Aid to Families with Dependent Children and the food stamp program. Contrary to supply-side theory, he also proposed major increases in military spending. This blend of tax cuts, deregulation, cuts in spending for social programs, and increases in spending for defense became known, somewhat disparagingly, as Reaganomics.

How well did Reaganomics work? During Reagan's administration, annual price inflation fell a whopping 11.9 percentage points—from 13.5 percent in 1980 to 1.9 percent in 1986, creeping back to 4.9 percent in 1988. Although many economists credit the drop to the tight-money policies of the Federal Reserve Board, which raised interest rates, the Fed did it with Reagan's support. Higher interest rates cut back business investments, initially producing a severe recession and unemployment. However, unemployment peaked at 9.7 percent in 1982 and dropped to 5.5 percent in 1988, far below the rate when Reagan took office. These were important economic accomplishments. Unfortunately, and in spite of supply-side theory, the tax cut was accompanied by a massive drop in tax revenues. Shortly after taking office, Reagan promised that his economic policies would balance the national budget by 1984, but lower tax revenues and higher defense spending produced the largest budget deficits ever.

(from “The Challenge of democracy”)

Tasks:

do the phonetic reading and written literary translation of

a) the sixth passage of the text;

b) the last passage of the text;

put 12 questions to the text;

give the summary of the text;

retell the text as if you were:

1. A supply-side economist.

2. An unemployed person.

3. A tax inspector.

4. A governor from the Fed.

5. A banker.