Question

During the pandemic crisis, the federal government sent out checks for a host of programs. An administrator for one of these programs commented: “These tax checks should help keep interest rates low or help them decline even further from their current levels.” Critically evaluate this statement (i.e., true, false, and why).

Answer 1

The tax checks send by the government as a relief during the pandemic has eased the money crisis that many people are facing. Basically thinking in terms of quantity of money in the economy (the money supply) - there is an increase in amount of money people will have after after the tax checks. This decreases competition for lonable funds easing pressure of interest rates and keeping them low. A recent news article by cbs news mentioned that about $1.4 billion as relief has been passe down to the people. Given the huge injection of money in the economy there is definetly a chance that interest rates could fall below current levels. However this is only one side of the story (a monetarist story). If we consider the short term impact of the tax check, basically there is a huge increase in government spending due to the tax checks passed by the government. This increases spending and can crowd out investments. So there can actually be an increase in interest rate in the short run as IS curve would shift right wards due to increased government spending - basically a transfer. So interest rate can definetly rise from this perspective. Another important thing to note is that if people decide to save this tax checks then interest rates will again rise. So based on this analysis we can say that the statement is false and is one dimensional and does not considers many important aspects like the permanent income hypothesis, keynesian cross, crowding out effect - to name a few.