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CHAPTER 5

CHAPTER 5. Monetary Theory and Policy. CHAPTER 5 OVERVIEW. This chapter will: A. Describe the impact of monetary policy B. Explain the tradeoffs involved in monetary policy C. Describe how financial market participants monitor and forecast the Fed’s policies. A. Impact of Monetary Policy.

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CHAPTER 5

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  1. CHAPTER 5 Monetary Theory and Policy

  2. CHAPTER 5 OVERVIEW This chapter will: A. Describe the impact of monetary policy B. Explain the tradeoffs involved in monetary policy C. Describe how financial market participants monitor and forecast the Fed’s policies

  3. A. Impact of Monetary Policy 1. Correcting a Weak Economy a. Fed can stimulate the economy by creating a loose-money policy and engages in 1.) buying government securities 2.) lowering the lending rate 3.) lowering the reserve requirement

  4. Exhibit 5.1 Effects of an Increased Money Supply

  5. Exhibit 5.3 How Monetary Policy Can Affect Economic Conditions

  6. A. Impact of Monetary Policy 2. Correcting High Inflation a. The Fed can constrain economic activity when it creates a tight-money policy and 1.) sells government securities 2.) raises the lending rate 3.) increases the reserve requirement

  7. Exhibit 5.2 Effects of a Reduced Money Supply

  8. Exhibit 5.3 How Monetary Policy Can Affect Economic Conditions (continued)

  9. B. Tradeoff in Monetary Policy 1. The Tradeoff a. Studies indicate there exists an inverse relationship between inflation and unemployment • the lower the unemployment, the greater the inflation, • the higher the unemployment, the lower the inflation

  10. Exhibit 5.5 Tradeoff between Reducing Inflation and Unemployment

  11. B. Tradeoff in Monetary Policy 2. When inflation is high, tight money policy is considered. Tradeoff is higher unemployment

  12. B. Tradeoff in Monetary Policy 3. When unemployment is high, loose-money policy is considered. Trade off is higher inflation

  13. C. Monitoring and Forecasting the Fed’s Policy 1. Economic Indicators Monitored by the Fed a. Indicators of Economic Growth 1.) GDP 2.) Industrial production index 3.) Unemployment rate 4.) Consumer confidence surveys b. Index of Leading, Coincident, and Lagging Indicators

  14. C. Monitoring and Forecasting the Fed’s Policy 2. Indicators of Inflation a. Producer and Consumer Price Indexes b. Other Indicators

  15. Discussion • How Fed Chair’s speech affect financial market

  16. Summary • 1. The effect of monetary policy • 2. Homework Assignment 3 continue: Questions and Applications 1,2.

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