Tim Shaughnessy: Effectiveness of Fed's monetary policy debatable
August 25, 2007
News reports about the Federal Reserve generally do not make the front page but if you sifted past the headlines you saw that the Fed cut the "discount rate." Since people refer to the chair of the Fed as the second most powerful person in the world, it might be helpful to unpack some of the details of the Fed's latest move to see how it affects the economy.
The primary purpose of the Fed is to maintain a sound monetary system leading to low inflation and unemployment, while ensuring smooth and trustworthy operation of banks and financial transactions. In short, the Fed's role is to control the money supply. If it injects more money into the economy, this tends to temporarily spur production of goods and services; in the long run, though, too much money will lead to inflation. If the economy heats up and inflation is looming, the Fed will pull money out of circulation, leading to lower prices but less production.
In the Fed's role as a "bankers' bank," it can change the money supply using the discount rate. In a similar way that I have an account at AmSouth, AmSouth has an account at the Fed. I can borrow money from AmSouth; AmSouth can borrow from the Fed. AmSouth charges me an interest rate when I borrow; the Fed charges AmSouth to borrow, and it calls this rate the discount rate.
The official announcement said the rate was cut "50 basis points," which is just a fancy way of saying half a percent. (Like all economists, the Fed sounds smart when it renames already familiar terms.) Thus, it is now half a percent cheaper for banks to borrow money from the Fed. They borrow more and turn around and lend it out so the money supply increases, which hopefully causes more production of goods and services.
Why did the Fed do this now? "To promote the restoration of orderly conditions in financial markets," according to its press release. The sub-prime mortgage market woes threaten to put the brakes on the economy, so the Fed cut the discount rate as an antidote. The stock market seemed to appreciate the move as the Dow, Nasdaq, and S&P 500 all moved up about 2 percent, reflecting investors' optimism that the easier lending by banks will help the economy.
There is much debate within economics about the effect and effectiveness of monetary policy, with some believing that the Fed is good at fighting inflation but not so good at preventing recessions, and some who think the Fed cannot affect output at all in the long run. We will have to wait and see whether the discount rate cut was the right medicine.
Sunday, 26 August 2007
Sunday, 19 August 2007
International Econ Commentary Article
Anti-trade backlash would hurt the world's most vulnerable people
Vancouver Sun
Published: Monday, August 13, 2007
The growth in international trade and the consequent increase in imports of tainted goods -- from E.coli-infected spinach from the United States to toxic lead-coated toys from China -- pose more than a health risk. They threaten to jeopardize support for a liberalized global trading regime that represents the only viable hope for many developing nations to raise their standards of living.
In the U.S., Democratic presidential hopefuls are attacking trade at every turn to appeal to the labour vote.
New York Senator Hillary Clinton has registered her opposition to a trade deal with South Korea and, more seriously for Canada, says the North American Free Trade Agreement "has hurt America." She wants to see "broad reform" in how the U.S. approaches trade. "I believe in smart trade, pro-American trade, trade that has labour and environmental standards, trade that's not a race to the bottom," Clinton told a forum in Chicago hosted by the AFL-CIO.
Former North Carolina senator John Edwards vowed to fight trade deals that don't benefit American workers. "While economists say that trade helps our economy over-all, we need to be honest about the fact that it does not help everyone," he told a crowd in Cedar Rapids, Iowa. "Globalization has helped stunt the growth in wages for American workers."
Other contenders, including Barack Obama, agreed that they would revise NAFTA. "Our trade agreements should not just be good for Wall Street, it should also be good for Main Street," Obama said.
Such mindless sloganeering is troubling coming from those who want to be the next U.S. president.
But the theme is striking a chord with many, including owners of dogs and cats killed or hurt by pet food laced with the poisonous chemical melamine and parents worried about toys coated in lead paint from China.
As CanWest News reported last week, Canadian food imports have grown nearly 22 per cent in the last decade. The U.S. accounted for $11.9 billion of the $19.2 billion imported by Canada from 195 countries last year, but substantial volume came from China ($756 million), Brazil ($607 million), Mexico ($599 million), the Philippines ($91 million), Malaysia ($66 million), Iran ($26.8 million) and Ghana ($24 million).
As little as 10 per cent of imported produce is examined by the Canadian Food Inspection Agency despite the fact that some source countries tend to have poor hygiene, low food safety standards and lax regulation. Meanwhile, Canadian farmers must abide by strict food safety rules and face frequent inspections.
The CFIA says it doesn't have the resources to inspect everything, that it would take an army to scrutinize a million entries of fresh produce a day. Yet an Ontario farmer reports that he has already had five visits from inspectors this year, raising questions about the deployment of federal inspection resources.
It is clear that the rapid growth in imports has not been matched by a corresponding restructuring of administrative services to facilitate it. Canadians and Americans have to be persuaded that the products for sale on grocery shelves, at toy shops and in the shopping mall are safe. Unless inspection systems are put in place that can offer that assurance, the advances in alleviating poverty in the developing world through trade will be put in jeopardy.
Politicians should not be misled by anti-trade propaganda. The evidence is irrefutable that trade creates wealth for nations and lifts people out of poverty. A study by Columbia University economics professor Xavier Sala-i-Martin estimated that there were between 250 million and 500 million fewer poor people in 2000 than there were in 1970. In a 2005 report, the Food and Agriculture Organization of the United Nations argued that a growing agricultural sector is crucial for sustainable poverty reduction.
An anti-trade backlash would be a calamity for the global economy and cause the greatest hardship to the most vulnerable citizens in the least prosperous countries.
It's up to industrialized nations to ensure the growth in imports that can enrich the populations of the developing world is not impeded by bureaucratic failure.
The issue in this article is that the US and now much of the world is reconsidering Free Trade Zones and starting to consider more protectionist measures due to the safety and contamination of goods that are being imported from other countries, mainly China. If the US and other more developed countries were to remove the free trade zones and start imposing tariffs in order to control the quality of goods then less developed countries that rely on trade with larger countries for much of their GDP will be severly affected because the new barriers to trade will create a serious damper on the amount of money that they earn and the poorer people in those LDEC's will be hurt the most because it is they who are the ones who rely the most on the trade of natural resources with other countries as their main source of income.
Vancouver Sun
Published: Monday, August 13, 2007
The growth in international trade and the consequent increase in imports of tainted goods -- from E.coli-infected spinach from the United States to toxic lead-coated toys from China -- pose more than a health risk. They threaten to jeopardize support for a liberalized global trading regime that represents the only viable hope for many developing nations to raise their standards of living.
In the U.S., Democratic presidential hopefuls are attacking trade at every turn to appeal to the labour vote.
New York Senator Hillary Clinton has registered her opposition to a trade deal with South Korea and, more seriously for Canada, says the North American Free Trade Agreement "has hurt America." She wants to see "broad reform" in how the U.S. approaches trade. "I believe in smart trade, pro-American trade, trade that has labour and environmental standards, trade that's not a race to the bottom," Clinton told a forum in Chicago hosted by the AFL-CIO.
Former North Carolina senator John Edwards vowed to fight trade deals that don't benefit American workers. "While economists say that trade helps our economy over-all, we need to be honest about the fact that it does not help everyone," he told a crowd in Cedar Rapids, Iowa. "Globalization has helped stunt the growth in wages for American workers."
Other contenders, including Barack Obama, agreed that they would revise NAFTA. "Our trade agreements should not just be good for Wall Street, it should also be good for Main Street," Obama said.
Such mindless sloganeering is troubling coming from those who want to be the next U.S. president.
But the theme is striking a chord with many, including owners of dogs and cats killed or hurt by pet food laced with the poisonous chemical melamine and parents worried about toys coated in lead paint from China.
As CanWest News reported last week, Canadian food imports have grown nearly 22 per cent in the last decade. The U.S. accounted for $11.9 billion of the $19.2 billion imported by Canada from 195 countries last year, but substantial volume came from China ($756 million), Brazil ($607 million), Mexico ($599 million), the Philippines ($91 million), Malaysia ($66 million), Iran ($26.8 million) and Ghana ($24 million).
As little as 10 per cent of imported produce is examined by the Canadian Food Inspection Agency despite the fact that some source countries tend to have poor hygiene, low food safety standards and lax regulation. Meanwhile, Canadian farmers must abide by strict food safety rules and face frequent inspections.
The CFIA says it doesn't have the resources to inspect everything, that it would take an army to scrutinize a million entries of fresh produce a day. Yet an Ontario farmer reports that he has already had five visits from inspectors this year, raising questions about the deployment of federal inspection resources.
It is clear that the rapid growth in imports has not been matched by a corresponding restructuring of administrative services to facilitate it. Canadians and Americans have to be persuaded that the products for sale on grocery shelves, at toy shops and in the shopping mall are safe. Unless inspection systems are put in place that can offer that assurance, the advances in alleviating poverty in the developing world through trade will be put in jeopardy.
Politicians should not be misled by anti-trade propaganda. The evidence is irrefutable that trade creates wealth for nations and lifts people out of poverty. A study by Columbia University economics professor Xavier Sala-i-Martin estimated that there were between 250 million and 500 million fewer poor people in 2000 than there were in 1970. In a 2005 report, the Food and Agriculture Organization of the United Nations argued that a growing agricultural sector is crucial for sustainable poverty reduction.
An anti-trade backlash would be a calamity for the global economy and cause the greatest hardship to the most vulnerable citizens in the least prosperous countries.
It's up to industrialized nations to ensure the growth in imports that can enrich the populations of the developing world is not impeded by bureaucratic failure.
The issue in this article is that the US and now much of the world is reconsidering Free Trade Zones and starting to consider more protectionist measures due to the safety and contamination of goods that are being imported from other countries, mainly China. If the US and other more developed countries were to remove the free trade zones and start imposing tariffs in order to control the quality of goods then less developed countries that rely on trade with larger countries for much of their GDP will be severly affected because the new barriers to trade will create a serious damper on the amount of money that they earn and the poorer people in those LDEC's will be hurt the most because it is they who are the ones who rely the most on the trade of natural resources with other countries as their main source of income.
Wednesday, 15 August 2007
Summer commentary #2
http://www.dailytimes.com.pk/default.asp?page=2007%5C08%5C15%5Cstory_15-8-2007_pg5_1
In this article, the history of animosity between Pakistan and India has caused the slowing of trade between the countries through an inefficient method of transportation. The current system doesn’t allow trucks carrying goods for trade into either country and forces them to unload their goods and have a different truck on the importing country’s side come pick them up and take them to their destination. This is obviously a waste of time and money for both the importing and exporting country and also usually causes damage to the goods being shipped. Most goods are shipped by land and because of this forced transfer of goods between India and Pakistan, trade between surrounding countries (Afghanistan, Nepal, Bhutan, Tajikistan) that are being driven through either of these countries also suffer, especially ones that are land locked and have no other option for mass transportation. Both Pakistan and India have much to gain by streamlining their border crossing process because due to this inefficient system both countries are suffering massive losses to their GDP. In the article it’s mentioned that trade between the countries has been valued at 400 million for the past six years, however it has been estimated that it could instead be between 3 billion and 10 billion. Obviously this is an enormous increase and would be a big boost to both countries’ economies. Also because India and Pakistan are the among the most economically strong countries in the South-East Asia region, low trade between these two countries is a big limitation on growth in this region and if trade increased, both countries, especially India, would significantly strengthen economically.
What both countries should do is to allow free entry of cargo trucks from both countries, therefore eliminating the costly and potentially goods damaging transfer process. Also because both countries are part of the South Asia Free Trade Area, trade between both countries would increase and as a result so would the GDP’s of both countries and the surrounding countries, as they too would have easier access to the markets in India and Pakistan. International trade would increase as well because the land locked countries around India and Pakistan, such as Afghanistan, Nepal and Bhutan would have access to the ports in both countries and allow for greater ease in shipping their goods around the world.
In this article, the history of animosity between Pakistan and India has caused the slowing of trade between the countries through an inefficient method of transportation. The current system doesn’t allow trucks carrying goods for trade into either country and forces them to unload their goods and have a different truck on the importing country’s side come pick them up and take them to their destination. This is obviously a waste of time and money for both the importing and exporting country and also usually causes damage to the goods being shipped. Most goods are shipped by land and because of this forced transfer of goods between India and Pakistan, trade between surrounding countries (Afghanistan, Nepal, Bhutan, Tajikistan) that are being driven through either of these countries also suffer, especially ones that are land locked and have no other option for mass transportation. Both Pakistan and India have much to gain by streamlining their border crossing process because due to this inefficient system both countries are suffering massive losses to their GDP. In the article it’s mentioned that trade between the countries has been valued at 400 million for the past six years, however it has been estimated that it could instead be between 3 billion and 10 billion. Obviously this is an enormous increase and would be a big boost to both countries’ economies. Also because India and Pakistan are the among the most economically strong countries in the South-East Asia region, low trade between these two countries is a big limitation on growth in this region and if trade increased, both countries, especially India, would significantly strengthen economically.
What both countries should do is to allow free entry of cargo trucks from both countries, therefore eliminating the costly and potentially goods damaging transfer process. Also because both countries are part of the South Asia Free Trade Area, trade between both countries would increase and as a result so would the GDP’s of both countries and the surrounding countries, as they too would have easier access to the markets in India and Pakistan. International trade would increase as well because the land locked countries around India and Pakistan, such as Afghanistan, Nepal and Bhutan would have access to the ports in both countries and allow for greater ease in shipping their goods around the world.
Tuesday, 14 August 2007
Summer destroying Commentary of death number 1
http://www.forbes.com/markets/feeds/afx/2007/08/08/afx3999541.html
The problem in this article is that the lumber companies in Canada are being taxed and therefore being forced to be less competitive relative to the US companies. In a truly free market, the US companies would have long ago been out competed by the cheaper Canadian lumber. This is obviously indicated in the article by it saying that the US suffers twice as many layoffs which shows that the US lumber companies are having to cut costs in order to remain competitive. However, the American government understandably wishes to protect its lumber market which is where the trade tariffs come in, but the tariffs would violate the NAFTA, so the US government created the SLA where Canada would control the tariffs but would control them under guidelines that were agreed upon by both the US and Canada. In this article the US claims that Canada is allowing too much lumber to be exported to the US for too low of a price and is therefore out competing the US lumber harvesters. This claim would violate the Softwood Lumber Agreement which says that the Canadian provinces that export lumber to the US must increase tariffs on lumber exports when lumber prices are low so that the US lumber firms can stay competitive with the Canadian firms. The US also claims that the taxes that Canada enforces are too small and that Canada is also circumventing the SLA by subsidizing the Canadian lumber firms when taxes are increased due to low prices therefore canceling out the effect of the tax.
In order for this problem to be resolved, the US lumber companies need to become more competitive which means that more lumber needs to be available because if there are more trees available to be harvested, then the cost of lumber will decrease. Therefore, instead of being whiney and accusing the Canadian government of not following a trade agreement that is detrimental to their economy anyways, the US government should instead focus more on replenishing their forests because not only would this aid the US lumber companies, but also would provide positive externalities to the public. By allowing Canada to specialize on lumber production and specializing upon a different industry as well would also be in not only the US’ best interests but would also increase the allocative efficiency of the US because Canada is obviously better at producing lumber. Therefore the US could concentrate on a different export and increase its GDP.
The problem in this article is that the lumber companies in Canada are being taxed and therefore being forced to be less competitive relative to the US companies. In a truly free market, the US companies would have long ago been out competed by the cheaper Canadian lumber. This is obviously indicated in the article by it saying that the US suffers twice as many layoffs which shows that the US lumber companies are having to cut costs in order to remain competitive. However, the American government understandably wishes to protect its lumber market which is where the trade tariffs come in, but the tariffs would violate the NAFTA, so the US government created the SLA where Canada would control the tariffs but would control them under guidelines that were agreed upon by both the US and Canada. In this article the US claims that Canada is allowing too much lumber to be exported to the US for too low of a price and is therefore out competing the US lumber harvesters. This claim would violate the Softwood Lumber Agreement which says that the Canadian provinces that export lumber to the US must increase tariffs on lumber exports when lumber prices are low so that the US lumber firms can stay competitive with the Canadian firms. The US also claims that the taxes that Canada enforces are too small and that Canada is also circumventing the SLA by subsidizing the Canadian lumber firms when taxes are increased due to low prices therefore canceling out the effect of the tax.
In order for this problem to be resolved, the US lumber companies need to become more competitive which means that more lumber needs to be available because if there are more trees available to be harvested, then the cost of lumber will decrease. Therefore, instead of being whiney and accusing the Canadian government of not following a trade agreement that is detrimental to their economy anyways, the US government should instead focus more on replenishing their forests because not only would this aid the US lumber companies, but also would provide positive externalities to the public. By allowing Canada to specialize on lumber production and specializing upon a different industry as well would also be in not only the US’ best interests but would also increase the allocative efficiency of the US because Canada is obviously better at producing lumber. Therefore the US could concentrate on a different export and increase its GDP.
Saturday, 26 May 2007
Unit 3.3 Chapter 11 Questions 4,5,6,7 Date: May 26th
4. a)The equilibrium will be $300 Billion but it doesnt have to be full employement because the output has to match the demand.
b) The amount of real GDP that has been demanded doesn't match the amoint supplied therefore the price levels will not be equilibrium.
c) The factors of aggregate demand are consumer wealth, consumer expectations, real interest rates and taxes.
5. a) Productivity = total output/total input
Productivity = 100 dollars / 37.5 units
Productivity = 2.667 dollars per unit
b) Per-unit production cost = total input cost/total output
Per-unit production cost = 2 dollars x 37.5 units / 100 dollars
Per-unit production cost = 0.75 dollars per unit
c) Per-unit production cost = total input cost/total output
Per-unit production cost = 3 dollars x 37.5 units / 100 dollars
Per-unit production cost = 1.125 dollars per unit
This increase in the cost of inputs will shift the AS curve inwards and the effect upon price level and output will be that price level will increase and output will decrease.
b) The amount of real GDP that has been demanded doesn't match the amoint supplied therefore the price levels will not be equilibrium.
c) The factors of aggregate demand are consumer wealth, consumer expectations, real interest rates and taxes.
5. a) Productivity = total output/total input
Productivity = 100 dollars / 37.5 units
Productivity = 2.667 dollars per unit
b) Per-unit production cost = total input cost/total output
Per-unit production cost = 2 dollars x 37.5 units / 100 dollars
Per-unit production cost = 0.75 dollars per unit
c) Per-unit production cost = total input cost/total output
Per-unit production cost = 3 dollars x 37.5 units / 100 dollars
Per-unit production cost = 1.125 dollars per unit
This increase in the cost of inputs will shift the AS curve inwards and the effect upon price level and output will be that price level will increase and output will decrease.
Unit 3.3 Chapter 9 Questions 7, 8, 9 Date: May 26th
7. If the duplicating machine costs 500 dollars and is expected to contribute 550 dollars to the years net revenue then the machine contributes 50 dollars to profit and the expected rate of return will be:
$50/$500 = 10% rate of return
If the interest rate is 8% then the total interest cost will be 40 dollars which will then leave a 10 dollar profit. Therefore, because there is still profit that can be earned, the handbill publisher should purchase the duplicator.
8. a) 20 billion b)30 billion c) 35 billion
This curve is the investment demand curve because it shows the relationship between the interest rate and the dollars invested in the economy. The relationship between these two is inversely related, therefore this means that as the interest rate increases, the dollars invested in the economy decreases.
9. The multiplier effect is where a change in input to the economy will result in a greater change in real GDP. The larger the MPC then the larger the real GDP will be and the opposite is for MPS.
MPS = 0 = infinite multiplier
MPS = .4 = 2.5 x mulitplier
MPS = .6 = 1.67 x multiplier
MPS = 1 = no multiplier
MPC = 1 = infinite mulitplier
MPC = .9 = 10 x multiplier
MPC = .67 = 3.03 x multiplier
MPC = .5 = 2 x multiplier
MPC = 0 = no multiplier
With a multipler of 0.8, GDP will rise by 6.4 billion dollars with an investment of 8 billion. With a multiplier of 0.67, GDP will rise by 5.36 billion dollars with an investment of 8 billion dollars.
$50/$500 = 10% rate of return
If the interest rate is 8% then the total interest cost will be 40 dollars which will then leave a 10 dollar profit. Therefore, because there is still profit that can be earned, the handbill publisher should purchase the duplicator.
8. a) 20 billion b)30 billion c) 35 billion
This curve is the investment demand curve because it shows the relationship between the interest rate and the dollars invested in the economy. The relationship between these two is inversely related, therefore this means that as the interest rate increases, the dollars invested in the economy decreases.
9. The multiplier effect is where a change in input to the economy will result in a greater change in real GDP. The larger the MPC then the larger the real GDP will be and the opposite is for MPS.
MPS = 0 = infinite multiplier
MPS = .4 = 2.5 x mulitplier
MPS = .6 = 1.67 x multiplier
MPS = 1 = no multiplier
MPC = 1 = infinite mulitplier
MPC = .9 = 10 x multiplier
MPC = .67 = 3.03 x multiplier
MPC = .5 = 2 x multiplier
MPC = 0 = no multiplier
With a multipler of 0.8, GDP will rise by 6.4 billion dollars with an investment of 8 billion. With a multiplier of 0.67, GDP will rise by 5.36 billion dollars with an investment of 8 billion dollars.
Saturday, 19 May 2007
Unit 3.3 Chapter 13 Questions 4,6,7 Date May 18 (ish)
4. The components of the M1 money supply are the coins, bills and checkable deposits. The largest component of the M1 money supply is the checkable deposits and the bills are called legal tender. The face value of a coin must be worth more than the intrinsic value of the coin (the value of the metal) because if it is not, then rational people would simply melt down the coins and sell them for the value of the metal. The near monies that are included in the M2 money supply are the savings deposits, small time deposits and the money market mutual funds. The difference between the M2 and M3 money definitions are that the M3 near monies are greater in value, such as the M3 definition includes large time deposits (100,000 dollars or greater) while the M2 includes only small time deposits (below 100,000 dollars).
6. If the price level increases by 1.25 then the new value of the dollar is 0.8 of what it was in year 1. If the price level decreases to 0.5, then the new value of the dollar has doubled from year 1. We can therefore conclude that the dollar and the price level are inversely related.
7. The main determinant for transactions demand is the level of the nominal GDP and the main determinant of asset demand is the interest rate. When asset demand is added horizontally to transaction demand and the equlibrium interest rate is determined by the intersection point of the supply of money and total demand for money. An increase in the use of credit cards will shift the total demand of money outwards because with the increased use of credit cards, an increase in the asset demand will occur. A shortening of worker pay periods will also decrease the total demand of money because the number of times the dollars are spent per year will increase. This increase will change the transaction curve because the curve is determined by the nominal GDP / the number of times a dollar is spent in a year, therefore an increase in the dollars spent will decrease the transaction curve, which will decrease the total money demand curve. An increase in nominal GDP would shift the total money demand supply outwards because as nominal GDP increases so does the transactions demand.
6. If the price level increases by 1.25 then the new value of the dollar is 0.8 of what it was in year 1. If the price level decreases to 0.5, then the new value of the dollar has doubled from year 1. We can therefore conclude that the dollar and the price level are inversely related.
7. The main determinant for transactions demand is the level of the nominal GDP and the main determinant of asset demand is the interest rate. When asset demand is added horizontally to transaction demand and the equlibrium interest rate is determined by the intersection point of the supply of money and total demand for money. An increase in the use of credit cards will shift the total demand of money outwards because with the increased use of credit cards, an increase in the asset demand will occur. A shortening of worker pay periods will also decrease the total demand of money because the number of times the dollars are spent per year will increase. This increase will change the transaction curve because the curve is determined by the nominal GDP / the number of times a dollar is spent in a year, therefore an increase in the dollars spent will decrease the transaction curve, which will decrease the total money demand curve. An increase in nominal GDP would shift the total money demand supply outwards because as nominal GDP increases so does the transactions demand.
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