According to a testimony by a Federal Reserve (FED) official, US recorded a slight economic growth in 2006. The inflation rate remained relatively high and only a few jobs were created. However, the situation worsened in the beginning of 2007 where a downward economic growth was registered, a clear attestation that there had been economic strains. Much of these problems can be blamed on the troubled financial markets as well as the instability in the world economy. Prices of consumer goods as well as oil rose thus affecting the entire economy.
To stir up the economy various measures have been adopted both by the government as well as her central bank, the Federal Reserve. The government uses fiscal policies to influence the flow of money in the economy thus influencing economic growth. In instances where there is a recession it can increase the money supply in the economy through increased expenditure or sale of her assets. On the other hand it can buy off her assets and reduce her expenditure to reduce excessive money supply in the economy.
The Federal Reserve in contrast applies monetary policies with the aim of regulating the flow of money in the economy. Monetary policy tools used include changing the reserve requirement, changing the discount rate as well as Open Market Operations. (FOMC, 2008). To ensure sustainable economic growth both the monetary as well as the fiscal policies are applied as they all aim at ensuring economic growth, stable prices and relatively low inflation rates. This paper will highlight some of the policies that have been successfully implemented since April 2006 up to April 2009.
The major aim of the monetary policies adopted by Fed is to maximize or rather raise the employment levels, ensure moderate long term interest rates as well as stable prices by checking on inflation. (www. federalreserve. gov). This is done to ensure that investment is encouraged and consequently economic growth is promoted. Price stability is imperative in as far as economic growth is concerned. It is an incentive to investment and it also positively influences the consumer confidence levels. The overall effect of this is that there is economic growth and people’s standards of living are boosted.
When prices are unstable or fluctuating there is a higher risk involved as people may incur losses when their assets lose value due to inflation. Fed has continually applied its monetary policies to promote economic growth while ensuring price stability. It has influenced the federal funds rate. It has continued to purchase the mortgage backed securities in an effort to increase people’s purchasing power as well as the consumer confidence levels and this will see the economy register a positive growth. In the entire 2006 the economic condition in the USA remained relatively low as the housing crisis stealthy started to impact.
This trend could also be blamed on the rising and unstable oil prices as well as increased interest rates. During this period the Federal Reserve ensured that the federal funds rate remained low at 5-0. 25. The low federal funds rate was extended into the year 2007. Slow economic growth persisted in the better part of 2007 precipitating the need to lower the federal funds rate by 50 to 25 points in various states. The rate was reduced to 4-0. 75 and from December 2007, FOMC intended to adopt the Term Auction Facility which was to offer a short term solution to the troubled financial market on a biweekly basis for as long as would suffice.
It aimed at increasing the availability of dollar funds through currency swap arrangements with other central banks. (www. federalreserve. gov). This way the impact brought about by the troubled financial market would be reduced. Through the reduced federal funds rate the financial institutions would be empowered and they could offer credit to individuals as well as firms and companies. It would increase people’s purchasing power as well as empower companies and the resultant effect of this would be positive economic growth.
Companies would be equipped with needed resources to increase their production to match the increased demand from market. According to the IMF ‘shocks in the financial system or markets begun in August 2007 when the sub prime mortgage market was derailed by the reversal of the housing boom. It later spread swiftly and impulsively to inflict extensive damage on markets and institutions at the heart of the financial system’. (Stewart H). The then president Bush adopted a $150 tax rebate with the aim of kick starting the economy to reverse the downward economic growth.
The government was also to purchase or rather buy off some investment banks as a way of saving them from closing down. However, it became clear as time passed by that the damage precipitated by the troubled housing industry had been enormous and there was need to adopt serious measures like the bail outs. (Stewart H). In 2008 the economic growth persisted, it was characterized by a reduced real GDP. The troubled financial markets made the accessibility to credit a nightmare to most Americans. Major financial institutions like Fannie Mae and Freddie Mac and Lehman brothers were adversely affected.
The AIG insurance company was also in crisis and the government had to intervene to rescue it. Most companies had been rendered bankrupt and this damaged the consumer confidence levels. As a matter of fact, some investors called back their initial investments from some companies. This was a dangerous affair considering that the consumer confidence levels play a very significant role in determining investment. Again, investment is vital to enhance or rather trigger economic growth. The sluggishness in economic growth was accompanied by increased unemployment rates as many companies were forced to lay off workers.
(www. federalreserve. gov). The troubled financial institutions could not ensure easy acquisition of credit to the Americans and this limited their level of investment. Without the financial power it was difficult to ensure a strong household demand for goods compelling various companies to reduce their output. Notably, the accessibility to credit also affected companies forcing them to adopt strict measures to ensure reduced costs. Most of them had to lay off sizeable numbers of workers. The economic slowdown was also characterized by a troubled housing industry.
Most people who had taken mortgages were unable to repay them thus increasing the cases of defaults, a major threat to the mortgage companies. Prices of housing went up and with a reduced real income the housing industry was stagnant. To respond to this grave situation the Federal Reserve, whose main objective is to apply the various monetary policies at her disposal to ensure price stability and employment for the Americans, ‘had to boost the economy to desirable levels. ’ Bush recommended that the congress passes a bill to approve a government bail out totaling to $700 billion.
To the president the prevailing economic crisis was weighty and a threat to the entire economy. There were fears even from international organizations like IMF that the economy risked sinking into a full blown recession. Being a world super power it was imperative that the immediate responses be adopted to save the country’s face. In March 2009, Fed bought an additional $750 mortgage backed securities with the aim of boosting the housing markets as well as the mortgage lending firms which played a significant role in as far as the country’s economy was concerned.
Through the Term Asset Backed Security Loan Facility availability of credit to both households and small businesses would be ensured. Other tools by FED included the ‘asset backed commercial paper money mutual liquidity facility’ as well as the ‘commercial paper funding facility’ and ‘money market investor funding facility’. The Federal Reserve would purchase the ‘agency guaranteed mortgage backed securities’. Preferred shares were to be bought in large numbers from the depository institutions. (www. federalreserve. gov).
The need for government intervention through the bailout strategy was more of a necessity rather than a requirement given the fact that other options had been explored. The monetary policies to trigger the economy like the Term Auction Facility which aimed at encouraging the flow of money were like a drop in an ocean. To some the financial crisis was the worst to hit the US since the Second World War. It was also further concluded that ‘the government would be the only institution patient enough to buy assets at their prevailing low prices only to sell them at higher prices when the situation has normalized’.
(CNN 2008). The government bailout was critical as the recession precipitated by the financial crisis have trickled into other sectors of the economy it affected the insurance, the banking, housing as well as the mortgage industries. Failure in all these industries would be a very enormous in the American economy. It was essential to empower the ‘loaning ability of banks’ if the economy was to register a positive economic growth. References: Board of Governors of the Federal Reserve System. Federal Open Market Committee FOMC. Monetary Policy.
Retrieved on 24 April 2009 from http://www. federalreserve. gov/monetarypolicy/fomc. htm Board of Governors of the Federal Reserve System. Federal Open Market Committee FOMC. Monetary Policy http://www. federalreserve. gov/newsevents/press/monetary/20061212a. htma Board of Governors of the Federal Reserve System. Federal Open Market Committee FOMC. Monetary Policy. Retrieved on 4th April 2009 from http://www. federalreserve. gov/newsevents/press/monetary/20090318a. htm Lee Ferran. 2009. Bailout Could Increase Confidence, Help Economy.
We Are Bailing Out the U. S Economy. Retrieved on 24 April 2009 from http://abcnews. go. com/GMA/story? id=5902783&page=1 Heather Stewart. 2008. IMF says US crisis is ‘largest financial shock since Great Depression’. Guardian News and Media Limited. Retrieved on 24 April 2009 from http://www. guardian. co. uk/business/2008/apr/09/useconomy. subprimecrisis Cable News Network. CNN. 2008. Bush: Bailout plan necessary to deal with crisis. Retrieved on Retrieved on 24 April 2009 from http://edition. cnn. com/2008/POLITICS/09/24/bush. bailout/index. html