Class project

1. Monetary Policy, Banking,
and the Economy
Chapter 15, Section 3

2. Short Run Impact
• In the short run, an increase or a decrease
in the money supply affects the interest
rate, which is the price of credit.
• Supply curve is vertical, meaning the supply
of money is fixed at any given time.
• Prime Rate - best or lowest interest rate
commercial bankers charge their
customers

3. Long-Run Impact
• quantity theory of money - hypothesis that
the supply of money directly affects the
price level over the long run

4. Long-Run Impact
• Monetizing the Debt:
• monetize the debt - create enough extra
money to offset the deficit spending in order to
keep interest rates from changing
• When the government borrows money, the
demand curve shifts to the right.
• In order to keep the interest rate from rising
the Fed could increase the money supply,
shifting the vertical supply curve to the right.

5. Long-Run Impact
• Taming Inflation:
• real rate of interest - the market rate of
interest minus the rate of inflation

6. Other Monetary Policy Issues
• Timing and Burden:
• Variations in timing make it difficult to
use monetary policy to fine-tune the
economy.
• Monetary policy has an uneven impact on
the economy.

7. Other Monetary Policy Issues
• Present vs. Future Allocation:
• When interest rates are low, people can finance
houses and cars easier, but when people spend
more money today, they save less in the future.
• When interest rates are high, some purchases
are delayed until they go down. As a result
people have more money to spend in the future.
• If people expect inflation of prices, then they are
going to make purchases right away.

8. Other Monetary Policy Issues
• Defining Money:
• Transactional components: traveler’s
checks, coins, currency, demand deposits,
and other checkable deposits such as
NOW accounts.
• Store of value: small denomination time
deposits, savings deposits, and money
market funds.

9. The Politics of Interest Rates
• The president or members of Congress up for
reelection may call for low interest rates to
stimulate the economy, and voters normally
prefer lower interest rates.
• People use interest rate as a measure of the
overall health of the economy.
• The Fed has to be careful not to raise interest
rates during election years, so they don’t lose
their independence.

10. THE END