Can anyone please explain in few lines- goals of Fed / central bank, fiscal policy / monetary policy tools used by each? This is a sure item with atleast 2 questions I guess I am listing few points: correct me if I am wrong Fiscal policy: done by Fed 1. Govt spending 2. Taxation Goals of Fed…?? Monetary poilicy: 1. Max employment 2. stable prices 3. Moderate long term interest rates Instruments used: 1. Instrument rule 2. Targeting rule Monetary policy managed by central bank Tools: 1. Inflation targeting 2…??? I
Fiscal policy measures are taken by the Government not Fed.
Tools: 1. Open market activity (buying and selling of securities aka changing the interest rate) 2. Change the required reserved 3. Changing the discount rate 4. Forgot the 4th one off the top of my head
Tools: 1. Open market activity (buying and selling of securities aka changing the interest rate) 2. Change the required reserved 3. Changing the discount rate 4. Forgot the 4th one off the top of my head 4. Fed Funds Rate
The Fed manages money supply by attempting to INFLUENCE the fed fund rate via the 3 tools stated above. The 4th is very seldom used and publicized and if I’m not wrong, its “attempting to influence” banks to give out loan or cut loan. I don’t know how, maybe through some extraordinary impromptu speech.
Revenant, you are right about the 4th one being persuading banks to lend more or lend less. However, I think we saw a lot of that this past year when they repeatedly made statements about how their goals were to increase liquidity in the markets and get banks to lend more.
Fiscal Policy is done by Government (BUDGET SESSION) [Remember as Fiscal POLICY= FISCAL YEAR =BUDGET] Monetary Policy is done by FED (FED=FEDERAL RESERVE = CENTRAL BANK)[if you are not from US, don’t get confused] [Remember as Monetary Policy= MONEY ,BANK (Central)] Government(FISCAL) can only do two things, 1. Increase/Decrease its own Spending and 2. TWEAK TAXES!! [Fiscal Policy also tries to balance INFLATION AND UNEMPLOYMENT but the affect is minimized due to TIME LAG] its action does affect GDP, INFLATION and UNEMPLOYMENT!! FED(Monetary) : they manage money supply to keep INFLATION and UNEMPLOYMENT under check!! THEIR motive is to INFLUENCE the FED FUND RATE (the Interest rate that ONE BANK (COMMERCIAL) charges to LOAN ANOTHER BANK(COMMERCIAL)] 1.Decrease the supply of money = decrease Inflation=Increase Unemployment=Increase Interest Rate= Decrease Investment= decrease GDP=Currency Appreciate 2. Increase the supply of money= increase inflation=decrease unemployment=decrease interest rate=increase investment=increase GDP= Currency Depreciate Tweaking FED FUND RATE is *NOT* a STEPS/Action taken by FED, its the REACTION of the ACTION of the OTHER STEPS of FED 1. Discount Rate 2. Open Market. 3.Reserve required
Fourth could be “automatic stabilizers” as a fiscal policy ie unemployment payments etc
I feel, “automatic stabilizer” is not a POLICY!! Its just a consequence of some action(GDP Increase or decrease due to either Monetary, Fiscal Policy, or Natural Growth!!
I have a question regarding FX Forward rates that I believe should be related to this topic. If the basis of my question is incorrect, would you please explain why? Here it goes. Consider the following FX Forward rates example: Given the following data, what should be the 90 day forward FX rate? spot: 1.3500 CAD/USD CAD 90 day LIBOR: 4.5% USD 90 day LIBOR: 3.8% answer: FXfwd = 1.35 * (1 + (.045 * (90/365))) / (1 + (.038 * (90/360))) OK, so first, there is a day count convention difference here. I’ve seen resources that list the various countries and their conventions. Actually, the yield and rates reading for CFAI is pretty good although it doesn’t cover the use of 360 or 365. For an example of what I mean, have a look at Schweser vol2 E3 afternoon question 77. Here they compute the bond equivalent yield of the US Treasury Bill using a 365 day calendar while in the example above, they use 360. Go figure. But anyway, this is not my question although any good resources are welcome here. OK, so my question really relates to the forward rate and how instinctively I would expect the CAD to strengthen against the USD due to the higher interest rate it offers. My thinking is as follows (and I borrow from the posting above that has a nice map of how the money supply affects other factors): Canada higher interest rate decrease in money supply decrease in inflation currency appreciates US lower interest rate increase in money supply increase in inflation currency depreciates Now, I know that I am comparing data among the two countries (cross sectional) when I should be comparing within a country for different times (time series) but this is all I have to go by. The end result is that I believe that, if I’m correct, the CAD is getting stronger and therefore the CAD/USD should be < 1.3500 going forward. What is my misunderstanding here?