AGEC 217 Lecture Notes Week of 10/20 and 10/22
AGEC 217 Lecture Notes Week of 10/20 and 10/22 AGEC21700
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This 0 page Class Notes was uploaded by Abby Shepherd on Friday November 6, 2015. The Class Notes belongs to AGEC21700 at Purdue University taught by DeBoer in Summer 2015. Since its upload, it has received 28 views. For similar materials see Economics in Economcs at Purdue University.
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Date Created: 11/06/15
Ag Econ 217 Study Soup Notes 1020 and 1022 Lecture Notes 1020 The Fed and the Great Depression what the Fed did and did not do 0 High in ation rates during the war 0 Federal reserve tries to stop high in ation rates by raising the discount raise by a lot 11 0 Economy goes into recession immediately Monetary Policy Tools of the Federal Reserve 0 Discount rate interest rate charged banks when they borrow from the Fed 0 Increase rate banks reserve more lend less money supply decreases o Decrease rate banks reserve less lend more money supply increases 0 Economy goes into recession almost 9 0 Open market operations buying and selling Treasury bonds from and to banks 0 Buy bonds for money banks have more reserves lend more interest rates fall money supply increases 0 Sell bonds for money banks have fewer reserves lend less interest rates rise money supply decreases 0 Government can make their own money F o The policy maker makes a judgment on the biggest problem in society and sets a policy to try to counter the problem O setting the business cycle 0 Also known as Stabilization policy 0 The counter cyclical policy technically worked but it should have been more gradual The Roaring Twenties Technological advance radio movies skyscrapers mass produced automobiles in colors other than black Rapid growth with only two short recessions Low unemployment Stable prices no sustained in ation or de ation Rising con dence in nancial markets 0 Interest rate spread gets very small Benjamin Strong 0 Head of the New York Federal Reserve from 1913 on Fed39s defacto leader and leading policymaker 192039s 0 The new Federal reserve system discovered open market operations The Goods Market Monetary Policy ghts a recession 0 Second shift 2 0 Output is less than potential so aggregate demand in too low until the Fed buys bonds or reduces interest rate 0 Counter cyclical policy when recession is the problem reduce interest rates to increase spending What is a stock 0 A share in the ownership of a company 0 Entitles owner to a share of the pro ts o If pro ts are expected to rise more people offer a higher price for a share 0 When all pro ts are expected to rise stock share prices rise generally 0 Sometimes expectations are too optimistic Speculative bubble stocks growing too fast The Fed reacts Stock market speculation beyond reasonable expectations for company pro ts a speculative bubble Fed fears a crash will cause a recession 0 The Federal Reserve sells bonds and raises discount rate to try to slow stock market speculation Summer of 3929 Recession 0 Higher interest rates reduce business investment and household consumption spending Past investments in factories housing were too great producing more than could be sold at a pro t inventory recession Inventory recession Mild recessions Pessimism about investment returns Business investment spending falls October 1929 starts recessions The impact of the Stock Market Crash Stock values fall a lot 0 Business uncertainty and pessimism reduce expectations of investment return more 0 Reduced household wealth increases saving reduces consumption quotthe wealth effectquot 0 Fall in investment Bank Failures a With incomes and wealth reduced and unemployment rising many people and businesses could not repay their loans Banks could not collect so could not meet the demands of their depositors Bank runs thousands of banks fail one third of all banks no deposit insurance Banks reserve more money multiplier falls lending much reduced money supply drops interest rates rise Consumer deposits lost or tied up in court consumption spending falls Business banking relationships broken harder for businesses to borrow banks reluctant to lend investment spending falls Lecture Notes 1022 The money market Great Depression 0 GDP growth and in ation where decreasing by a lot so money demand was going down 0 there was a huge drop in money supply because GDP was decreasing but the price was rising huge drop in aggregate demand due to the drop in money supply What did the Fed do 0 Originally Fed quotfinds action unnecessaryquot and doesn39t do anything 0 Benjamin Strong died leaving the Fed without a leader 0 Quantity of money 38 decline because banks are cutting back on lending BAAAAA interest rate spread is huge and real investment spending decreases o 84 decline in real investment spending F o The fed failed and used procyclical policy 0 Pro cyclical policy promoting the business cycle promoting the recession making the problem worse Deposit Insurance 1933 FDIC Insure depositors39 deposits against bank failure 0 Eliminate the reason for bank runs 0 Allow banks to lend more keep lower reserves Opponents 0 Will be costly to the government 0 Forces well run banks to pay for the mistakes of poorly run banks 0 Eliminates incentive for prudent bank behavior 0 Moral hazard 0 When people are protected against risk they tend to make more risky decisions 0 Example if you know you are insured if your house oods then more people would be likely to build a house where oods are common Roosevelt signs Deposit Insurance bill June 16 1933 FDIC begins operations January 1 1934 0 4000 banks failed in 1933 only 9 failed in 1934 o The bill worked extremely well The money market Deposit Insurance allows banks to reduce reserves 0 Money supply increases Recessions are milder and less frequent than before Found economics 0 Banks used to be built fancier to attract costumers and give the impression that the bank was going to be around for while 0 We don39t care about how banks are built now as long as it is FDIC insured A consumption function trying to understand consumer behavior 0 Consumption depends on Saving vs spending 0 During recessions consumers don39t spend enough 0 During expansions consumers don39t save enough 0 Consumption depends on taxes 0 Tax cuts will encourage an increase of spending 0 Consumption depends on transfers 0 Transfer payments payments by the government collected by one group and paid out to another 0 Examples social security unemployment payments 0 Consumption depends on wealth 0 People will not spend as much if their wealth goes down 0 o YT R is disposable income 0 Y is income same as Q o T is taxes 0 R is transfer payments 0 B is the marginal propensity to consume MPC Consumer expectations Coef cient between 0 and 1 Tells you how much of an extra gets consumed the rest gets saved o If B is 09 then for an extra dollar 90 cents is spent and 10 cents is saved 0 Marginal when things are changing o A is autonomous consumption 0 Apart from disposable income 0 Savings charity stock values home values debt Now we can model quot scal policyquot 0 We now know all of government purchases because we have a formula to add in taxes transfers etc o T R and G are the government39s budget 0 Fiscal policy adjusting government taxes and spending to ght recession and in ation 0 Consumer spending increases and overall aggregate demand increases which improves the economy 0 Government has to increase their debt to help the recession De cit Spending in a Recession Balance T G R 0 Government purchases rise 0 Transfer payments rise 0 Taxes are cut 0 T is greater than G R budget de cit Herbert Hoover prime candidate for presidency because he knew the economy well and he knew how to help people 0 He wanted to reestablish con dence in the government Tax increase of 1932 0 Thought business con dence required a balance budget that would increase investment spending Hoover signs bill on June 6 1932 effective for FY 1933 then starting July 1 1932 0 Tax increases 0 Top rate from 25 to 63 Lower middle incomes 15 to 4 Deductions reduced Corporate taxes raised Estate gift taxes increased 0 Taxes were raised consumption went down aggregate demand decreased even more 0 O O O