Question

In: Economics

Discuss inflation and deflation and how various governments (Federal Reserve/Central Banks) use interest rates (both positive...

Discuss inflation and deflation and how various governments (Federal Reserve/Central Banks) use interest rates (both positive rates and negative rates - give examples of negative rates) to control the economy. Discuss the recent rate cuts by the Fed - do you think that rates should be cut again and why

. Please provide examples and at least two sources with two quotations from your research. (Sources must be after Jan 1, 2020 - must be articles, not a textbook type source). Web Address: If you do not scan or link or attach or give a full citation, I will not be able to grade your submission.

Solutions

Expert Solution

Inflation is persistent rise in general price level for goods and services in an economy, whereas deflation in persistent fall in general price level of goods and services in an economy.

An example of inflation can be a continuous rise in gasoline prices.

Most of the central banks across the world are mandated to keep stability of price level and along with that a relatively higher economic growth with higher employment.

When the economy heats up due to higher economic growth and an increase in money supply, central banks increase interest rates to decrease money supply in the economy which in turn brings down the inflation rate. A higher interest rate provides an opportunity to the businesses and people to earn more money by depositing it with the banks, whereas a lower interest rates means less incentive to keep the money deposited with the banks.

There are some countries such as Japan or even Germany where interest rates have been negative to discourage people and the businesses to keep the money deposited with the banks. A negative interest is generally seen during times of recession as central bank try to increase money supply in the economy.

Due to COVID-19 pandemic and measures taken to contain the spread of the virus, the world economy including that of the US is expected to go through recession. The Fed has brought down the benchmark interest rate to 0.25% in order to spur consumer spending with an increase in money supply. I don't think the interest rate should be cut again as it is already too low. The Fed may use other monetary tools such as quantitative easing, buying of government securities to increase the money supply in the economy.


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