Monetary and Fiscal Policy Explained

well hey there in this video we're going to talk about the difference between monetary and fiscal policy and you're likely familiar with these two concepts or at least heard of them two of the more important concepts in economics and the focus really is on trying to improve the health of the economy now the government is obviously interested in certain indicators as GDP and unemployment rates and consumer spending in a variety of others so the focus here really is on trying to move those metrics in a way that represent the economy is improving so the focus is very similar we're trying to improve the health of the economy now the means to which we do that is how these two policies different we pull different levers to try and help out and improve economic conditions again as reflected by a variety of economic indicators such as unemployment gdp consumer spending to name a few so I don't want to get it to the intricacies surrounding the specific tactics that are utilized but i do want to focus on the kind of the general differences between these two very important economic policies so the first thing we're going to talk about is monetary policy now monetary policy involves using two specific levers to try and improve the condition of the economy the first of which is what we call interest rates and the second is known as the money supply now interest rates represents both what banks essentially charge on loans but also what we receive an interest so if you have a savings account or a CD the money that's paid on that account largely is affected by the prevailing interest rates which although aren't set entirely by the Fed in some way they certainly influenced them through the purchasing of securities and those types of things so the general idea is by lowering interest rates what the Federal Reserve can do is essentially make it more advantageous for people to get loans and then of course spend them which injects money into circulation which of course gets invested into hiring employees and purchasing goods and its kind of this kind of cyclical kind of event that takes place so interest rates are really important you probably are familiar with a couple of specific interest rates things like what we call the discount rate which represents the actual money that is loan to banks so the federal reserve of course one of their major roles is the kind what we call the bankers Bank and so if a bank needs to get over night monies they can go to the Federal Reserve and they can go to what's called the discount window and then pay whatever prevailing rate that is currently it's relatively I think maybe a quarter to half a percentage point which can again kind of reflects the idea that i'm trying to as the federal reserve you know I want to facilitate spending if I want to pull back on spending if I'm concerned about potentially inflation and the economy is getting growing too quickly then I can of course raise that interest rate the second interest rate will be what we call the Fed Funds rate and this particular rate although it isn't set specifically by the Fed they've set what's called a target and the Fed Funds rate you're probably familiar is the rate that banks can loan to one another so banks will usually keep reserves with the federal reserve will with at least their federal reserve branch so for example at least here because we're in California our closest federal reserve branch in San Francisco so banks in this area and throughout a lot of the West will hold reserves with the Federal Reserve they can keep that money on hand and the fed will actually pay an interest rate to hold those monies but what the banks can do is they can lend money to one another for a specified interest rate again this is kind of you know that the bank's agree to on themselves however the Fed does set a target on what is considered to be reasonable as well so that's interest rates the other aspect is the money supply or the amount of money that's in circulation so what the Federal Reserve can do is it can essentially take the amount of money so say this represents 100 million dollars which is very small typically with the Fed we're talking about billions and and really they have trillions of dollars on their books but just as an example let's say there's a hundred million dollars in circulation this means that the amount of money available to consumers like your eye is 100 million so that's how much we can access through banks remember banks of course our kind of the distribution mechanism for the Fed when the Fed wants to create money it doesn't actually physically create it it simply transfers money on to the books of banks banks and in turn will make loans and then of course we can get loans and then spend that particular money so in this case what the Fed can do with the supply of money is it can go ahead and it's going to go ahead and increase this amount and so maybe it increases it an extra 25 million dollars well this is now an extra 25 million dollars it's available in circulation for people like you and I to acquire in terms of loans filtered down through the bank's we go into our local bank or credit union apply for a loan and then we can take these monies and then spend them on homes cars computers whatever good that we would that we want to obtain so this is a really interesting thing because by increasing the supply of money the Fed essentially increases the availability or the supply of that which in turn gives people the opportunities to acquire those funds if they get spent of course that's revenues for businesses and if enough of that takes place than businesses have needs to hire in those types of things so those are the two policies they're related specifically into monetary policy we can talk more about specifics in a future video now in fiscal policy we're actually looking at accomplishing the same thing as monetary policy what we do it differently now we're monetary policy is controlled by the Federal Reserve fiscal policy is controlled by the executive and legislative branches so in this case you know the legislative branch can recommend policies and those types of things we have kind of that checks and balances system so one can't do without the other so fiscal policy is going to take the two forms one it's going to take the form of government spending and two it will take the form of Taxation so government of course is responsible for two things one the money that it spends government has a huge budget and then it will in turn use that budget to support certain areas of the economy that it thinks needs to be supported taxation of course represents what we as consumers will pay on our taxes but the the Fed or the government can also use this as a way of giving increased money is in the hands of individual consumers so we will of course spend it one thing that you're probably familiar with is at least in the US we have a very terrible savings rate so if we get money the chances of us saving is very slim I believe it fluctuates but it can range anywhere from 12 maybe two percent it increased a little bit after the latest recession and await just as people were trying to kind of improve their personal balance sheets but it usually hovers around that percentage and so that shows you that if you got a hundred dollars for example you would save maybe a dollar to the rest of it you're going to spend the government knows this and understand that if we give money to consumers the chances of them saving it is going to be very very low so let me give you an example of this government spending makes sense because the government can in turn go and buy something from particular industry and then can inject money in the economy that way one interesting thing that would make the distinction of is under fiscal policy or merely talking about a redistribution of existing monies so we're not creating new money monetary policy involves the creation of new money and that big as the example that I gave you before is the Federal Reserve engages in a transaction digitally puts money on the books of banks that didn't exist before and then in turn that's filter to the banks with fiscal policy we're not creating new money we're merely taking it from a source so if we tax one group of consumers and then we re distributing it as a way of improving economic development so that's an important distinction that you get between the two now one thing you can do with taxation for example is what we call the payroll tax holiday and this took place several years ago and it was in response to economic recession of 2008 I believe this one into effect in 2009-2010 and so what happened is if you look on your payroll taxes you pay a social security tax of 6.2 percent so what the what the government did is it decreased this tax rate and so instead of paying six point two percent we paid I believe you paid for . to instead so it was a two percent savings so by doing so what happened was everybody's paychecks you probably noticed this got a little bit bigger and you didn't get a raise but it was less in taxes and so by doing so what the government is doing is using the levers of taxation for the purpose of you know reinvesting money into the economy because if people slowly see that they have more monies they're going to spend more in terms of you know essentials and groceries and those types of things at least that's the general logic behind it if it's a larger sum of money people would be more likely to save it now you can argue that maybe this policy wasn't great but this is an example of fiscal policy that was of course lessening social security taxes going in and you can make the argument of course that maybe we should be paying into Social Security given its not essentially the strongest thing financially but that's an example of a fiscal policy the payroll tax holiday of 2009 so that's the two differences so the key things again remember that both of them are attempts to influence the economy in a positive way they do a little bit differently monetary policy specifically with interest rates in the money supply fiscal policy specifically with money that government spends as well as taxation but the intent is very similar we're trying to take money put it in the hands of those people that are going to spend it so they can spend it goes into businesses businesses have no demand for goods and services they hire now people have more money and so you get kind of this cycle that takes place but the government tries to use this as the starting point to create that cycle

Channel: Alanis Business Academy

Views: 71,874

Keywords: economics, monetary policy, fiscal policy, what is monetary policy, what is fiscal policy, monetary policy explained, fiscal policy explained, monetary policy defined, fiscal policy defined, interest rates, money supply, taxation, difference between monetary and fiscal policy, monetary policy macroeconomics, monetary policy vs. fiscal policy, fiscal policy economics

Id: dyq-G8tyuOU

Length: 11min 27sec (687 seconds)

Published: Fri Jul 01 2016