Monetary Policy
Two things in particular come hand-in-hand with being the world’s largest economy: a worldwide faith in the value of the nation’s currency (“reserve currency”)and a relatively standard means for comparison against any other nation’s currency. Domestic monetary policy envelops both of these topics which influence America’s global image, along with other fundamental economic concepts such as the standard interest rate and regulation of federal and individual reserves. Understanding America’s monetary policy depends fundamentally on understanding America’s mixed economic system since all action and regulation regarding macroeconomic monetary decisions involve the government.
An effective monetary policy will encourage GDP and employment increases while stabilizing prices and interest rates to encourage consumption and investment. America’s economic regulation agency, the Federal Reserve Board (the Fed), has defined “[promoting] maximum employment, stable prices, and moderate long-term interest rates” as its driving goals. The Federal Open Market Committee, America’s monetary policy specific council, analyzes consumption and employment trends, among others, to optimize the inflation and unemployment rates. A nation can pursue its monetary goals through an expansionary or a contractionary approach, depending on the economic welfare of the country and its openness to risk. Expansionary methods consist primarily of decreased interest rates, which discourage saving thereby forcing consumption and investment. An increase of money in the market typically boosts an economy, making this approach effective for economies experiencing recession or decline; however, increased consumption also yields increased inflation and cost-of-living which can discourage people from spending even more than low interest rates encouraged them to spend. Contrarily, increased interest rates generally define contractionary policy, which America typically employs to slow the inflation rate and encourage saving in times of economic wellness. Contractionary policy also allows for slower, more consistent growth, thereby decreasing the economic risk of its use.
For the last three years, America has ardently adopted a contractionary approach after employing the most expansionary approach possible (with nearly 0% interest rate) during and for over half a decade following the 2008 recession. These choices uphold the protocol of forcing consumption in economic downturn to bolster businesses profits and drive the nation out of recession then encouraging saving during periods of relative economic well-being. Since 2015, the FOMC has deemed the economic atmosphere healthy and stable enough to try to drive money out of the market and it intends to continue doing so, despite the opposition of President Trump and some prevalent economists. While normative in nature, Americans’ responses to interests rates at Great Depression levels all but forced Powell and the Fed to increase rates as to imply that the nation has recovered from the more recent recession. The Fed currently intends to systematically continue increasing the interest rate, but a 2019 downturn could force levels back to the near-zero mark.
Nearly all economies have seen decreasing interest rates in the past ten years, as well as over the last century. These decreases can indicate a global reluctance to take money out of the market and risk hurting consumption, which would consequently hinder a nation’s trade. Furthermore, decreasing consumption could also damage GDP and unemployment among other fundamental economic metrics. Conversely, these nations also run the risk of inhibiting their inhabitants’ saving to an extent that decreases their well-being. Several experts believe that the declining interest rate has little to do with domestic governance, but rather suggests a worldwide supply-demand discrepancy whose presence casts doubt on the wellness of the economy, even in seemingly healthy periods.
Alongside dictating interest rates, the Fed also manages monetary policy by controlling the supply of currency available, thereby determining the inflation rate. Since the American dollar holds global worth with over half of all reserves worldwide containing the greenback, the Fed must accurately and efficiently determine its value and mandate how much it wants to change that value in a given year. Over the past fifteen years, policymakers have tried to maintain the inflation rate at approximately two percent, with the only significant deviation occurring during the 2008 recession.
With 1.7 trillion USD outstanding, the American dollar constitutes over twenty percent of global currency in circulation; consequently, large-scale inflation would yield a less reliable and prevalent dollar but no inflation could eventually render the dollar obsolete (i.e. if America never produced money again). Therefore, the Fed has to optimally define the inflation rate by controlling the amount of currency produced and regulating the amount of cash banks carry. Regulators can approach the former in primarily two ways: The Fed can simply produce less currency, which will not make inflation zero but will decrease it significantly; or, the government can put more money in its own hands (and control it from there) by collecting from its debtors or selling debt for cash.
Venezuela presents a current example of poor monetary policy, specifically in the realm of inflation. Under president Maduro, Venezuela’s Bolívar has seen 1000000% inflation (unfortunately that is not a typo, it really is one million percent), with an anticipated additional ten-million percent in 2019; consequently, prices double every nineteen days on average. This exorbitant inflation resulted from Maduro’s socialist policies such as frequent minimum wage increases (34 in the past four months), along with simply poor economic decision making such as linking its currency to an unsteady oil reserve. The Maduro regime’s has sent its economy tumbling to a point where it will require decades of reconstruction, primarily because of its mediocre monetary policy.
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