Question

Read through the material provided on how the Federal Reserve responded to the subprime mortgage crisis and consequent 2008-09 recession with monetary policy. Now, answer this: Do you support what the FED did in theory and practice? In particular, discuss your take on the series of quantitative easing measures we have witnessed since the crisis and the recent changes in FED outlook. Do you believe it is too early to raise interest rates by tightening money supply, or do you think this is the perfect time?

Answer 1

The 2008-2009 crisis which happened in the United States had its ramifications felt across the globe with many people losing out on jobs and thus being unable to sustain their families.

Particular hit were the developing nations which did not have high enough resources for federal action to take place. The 2008 Housing Crisis is what led to the recession ultimately. It was fueled by a reduction in the overall rates for real estate and with this people offered their homes to the banks instead of paying the loan amount which the banks in turn were also unable to sell.

As a result the aggregate demand for product and services fell in the economy which had it effects not only on the economy of the United States but extended to all other countries as described.

To prevent the situation from going even worse, the federal bank had to take protective action to be able to increase the demand hence maintaining profits for firms and the general economic environment to be stable.

When demand reduces it pulls with it unemployment since the supply side is corrected with layovers.

To prevent this from happening and to refuel growth in the economy, the federal bank altered its strategy to allow for easy flow of money in the country. This was done, by them by increasing the flow of money in the economy.

The federal bank changed the interest rates by regulating upon the cash reserve requirements of the commercial banks. This meant that the banks had higher reserves available which could be given out as loans.

These loans acted as a cushion to industries which got more funds which were necessary to fuel demand in the economy. Once the demand was fueled, the economy was brought back to normal stages.

In my opinion however, increasing the interest rates presently would not be a great move. The cushioning which the industry has got at present is the result of stable growth rates in the economy. Largely speaking the constant growth rates are not even at 5% meaning that the country still has chances for growth and has the need to further expand post which the fed may increase the rates.

Also, since USA is a developed economy, higher interest rates would not necessarily add up significantly but would have large impacts on business owners and could bring another similar downside.

Please feel free to ask your doubts in the comments section