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Now that we have come to the end of the course, we are examining the role of the Federal Reserve as it is in a unique situation when it comes to setting monetary policy going forward. As we have examined in this class, inflationary measures, as seen through the PPI and CPI are at levels not seen for several decades due to both supply and demand related issues. At the same time, we see low levels of unemployment, which contributed to their decision to raise interest rates three times starting in March, with a fourth increase expected this week. However, we have examined how the GDP for the first quarter of 2022 showed a negative growth value. Higher interest rates, as learned earlier this semester will serve to decrease C and Ig, both of which make up the AE equation. If AE declines, then GDP decreases, causing the recessionary gap to grow when the end goal is to reach potential GDP. However, at the same time, with the expectation that GDP growth will return in the second quarter (as we will find out on July 28) and the thought that the economy could exceed potential GDP due to the higher aggregate demand, the Federal Reserve knows it will continue to raise interest rates to also fight the high levels of inflation, but has the difficult decision of how much to raise interest rates to fight inflation, but also keep the economy from going into a recession, as it tries to achieve a soft, or “softish” landing.
With all of that said, in reading the articles about the central banks of other nations raising their interest rates and the expectation that the Federal Reserve will do the same, should the Federal Reserve continue to raise rates by as much as they did at their June meeting this week, should they raise it more or should they raise it less, if at all? If GDP growth returns, as predicted, and the other indicators continue on their current trends, what should the Federal Reserve do to interest rates at future meetings later this year in order to achieve this soft landing? Explain why. Looking at the measures covered in this class, what measures should the federal government and Federal Reserve be looking at: GDP, AE, labor productivity, unemployment, inflation, all of these, none of these? Explain why. Is there anything else the federal government should be doing in terms of fiscal policy? If so, what, and if no, then why not?