well hey there
in this video we're going to talk about the difference between monetary and
fiscal policy and you're likely familiar with these two concepts or at least
heard of them two of the more important concepts in economics and the focus
really is on trying to improve the health of the economy now the government
is obviously interested in certain indicators as GDP and unemployment rates
and consumer spending in a variety of others
so the focus here really is on trying to move those metrics in a way that
represent the economy is improving
so the focus is very similar we're trying to improve the health of the
economy
now the means to which we do that is how these two policies different we pull
different levers to try and help out and improve economic conditions again as
reflected by a variety of economic indicators such as unemployment gdp
consumer spending to name a few
so I don't want to get it to the intricacies surrounding the specific
tactics that are utilized but i do want to focus on the kind of the general
differences between these two very important economic policies
so the first thing we're going to talk about is monetary policy now monetary
policy involves using two specific levers to try and improve the condition
of the economy
the first of which is what we call interest rates
and the second is known as the money supply now
interest rates represents both what banks essentially charge on loans but
also what we receive an interest so if you have a savings account or a CD the
money that's paid on that account largely is affected by the prevailing
interest rates which although aren't set entirely by the Fed in some way they
certainly influenced them through the purchasing of securities and those types
of things
so the general idea is by lowering interest rates
what the Federal Reserve can do is essentially make it more advantageous
for people to get loans and then of course spend them which injects money
into circulation which of course gets invested into hiring employees and
purchasing goods and its kind of this kind of cyclical kind of event that
takes place so interest rates are really important you probably are familiar with
a couple of specific interest rates
things like what we call the discount rate which represents the actual money
that is loan to banks so the federal reserve of course one of their major
roles is the kind what we call the bankers Bank and so if a bank needs to
get over night monies they can go to the Federal Reserve and they can go to
what's called the discount window and then pay whatever prevailing rate that
is currently it's relatively I think maybe a quarter to half a percentage
point which can again kind of reflects the idea that i'm trying to as the
federal reserve
you know I want to facilitate spending if I want to pull back on spending if
I'm concerned about potentially inflation and the economy is getting
growing too quickly then I can of course raise that interest rate the second
interest rate will be what we call the Fed Funds rate
and this particular rate although it isn't set specifically by the Fed
they've set what's called a target and the Fed Funds rate you're probably
familiar is the rate that banks can loan to one another so banks will usually
keep reserves with the federal reserve will with at least their federal reserve
branch
so for example at least here because we're in California our closest federal
reserve branch in San Francisco so banks in this area and throughout a lot of the
West will hold reserves with the Federal Reserve they can keep that money on hand
and the fed will actually pay an interest rate to hold those monies
but what the banks can do is they can lend money to one another for a
specified interest rate again this is kind of you know that the bank's agree
to on themselves
however the Fed does set a target on what is considered to be reasonable as
well so that's interest rates the other aspect is the money supply or the amount
of money that's in circulation
so what the Federal Reserve can do is it can essentially take the amount of money
so say this represents 100 million dollars which is very small
typically with the Fed we're talking about billions and and really they have
trillions of dollars on their books but just as an example let's say there's a
hundred million dollars in circulation
this means that the amount of money available to consumers like your eye is
100 million so that's how much we can access through banks remember banks of
course our kind of the distribution mechanism for the Fed when the Fed wants
to create money it doesn't actually physically create it
it simply transfers money on to the books of banks banks and in turn will
make loans and then of course we can get loans and then spend that particular
money
so in this case what the Fed can do with the supply of money is it can go ahead
and it's going to go ahead and increase this amount and so maybe it increases it
an extra 25 million dollars
well this is now an extra 25 million dollars it's available in circulation
for people like you and I to acquire in terms of loans filtered down through the
bank's we go into our local bank or credit union apply for a loan and then
we can take these monies and then spend them on homes cars computers
whatever good that we would that we want to obtain so this is a really
interesting thing because by increasing the supply of money
the Fed essentially increases the availability or the supply of that which
in turn gives people the opportunities to acquire those funds if they get spent
of course that's revenues for businesses and if enough of that takes place than
businesses have needs to hire in those types of things
so those are the two policies they're related specifically into monetary
policy we can talk more about specifics in a future video now in fiscal policy
we're actually looking at accomplishing the same thing as monetary policy what
we do it differently now we're monetary policy is controlled by the Federal
Reserve fiscal policy is controlled by the executive and legislative branches
so in this case you know the legislative branch can recommend policies and those
types of things we have kind of that checks and balances system so one can't
do without the other so fiscal policy is going to take the two forms one
it's going to take the form of government spending and two it will take
the form of Taxation
so government of course is responsible for two things one the money that it
spends government has a huge budget and then it will in turn use that budget to
support certain areas of the economy that it thinks needs to be supported
taxation of course represents what we as consumers will pay on our taxes but the
the Fed or the government can also use this as a way of giving increased money
is in the hands of individual consumers so we will of course spend it
one thing that you're probably familiar with is at least in the US we have a
very terrible savings rate so if we get money the chances of us saving is very
slim
I believe it fluctuates but it can range anywhere from 12 maybe two percent it
increased a little bit after the latest recession and await just as people were
trying to kind of improve their personal balance sheets but it usually hovers
around that percentage and so that shows you that if you got a hundred dollars
for example you would save maybe a dollar to the rest of it you're going to
spend the government knows this and understand that if we give money to
consumers the chances of them saving it is going to be very very low
so let me give you an example of this government spending makes sense because
the government can in turn go and buy something from particular industry and
then can inject money in the economy that way
one interesting thing that would make the distinction of is under fiscal
policy or merely talking about a redistribution of existing monies
so we're not creating new money monetary policy involves the creation of new
money and that big as the example that I gave you before is the Federal Reserve
engages in a transaction digitally puts money on the books of banks that didn't
exist before and then in turn that's filter to the banks with fiscal policy
we're not creating new money we're merely taking it from a source so if we
tax one group of consumers and then we re distributing it as a way of improving
economic development so that's an important distinction that you get
between the two
now one thing you can do with taxation for example is what we call the payroll
tax holiday
and this took place several years ago and it was in response to economic
recession of 2008
I believe this one into effect in 2009-2010 and so what happened is if you
look on your payroll taxes you pay a social security tax of 6.2 percent so
what the what the government did is it decreased this tax rate and so instead
of paying six point two percent
we paid I believe you paid for . to instead so it was a two percent savings
so by doing so what happened was everybody's paychecks you probably
noticed this got a little bit bigger and you didn't get a raise but it was less
in taxes and so by doing so what the government is doing is using the levers
of taxation for the purpose of you know reinvesting money into the economy
because if people slowly see that they have more monies
they're going to spend more in terms of you know essentials and groceries and
those types of things at least that's the general logic behind it
if it's a larger sum of money people would be more likely to save it
now you can argue that maybe this policy wasn't great but this is an example of
fiscal policy that was of course lessening social security taxes going in
and you can make the argument of course that maybe we should be paying into
Social Security given its not essentially the strongest thing
financially but that's an example of a fiscal policy the payroll tax holiday of
2009
so that's the two differences so the key things again remember that both of them
are attempts to influence the economy in a positive way they do a little bit
differently
monetary policy specifically with interest rates in the money supply
fiscal policy specifically with money that government spends as well as
taxation
but the intent is very similar we're trying to take money put it in the hands
of those people that are going to spend it so they can spend it goes into
businesses businesses have no demand for goods and services they hire now people
have more money and so you get kind of this cycle that takes place
but the government tries to use this as the starting point to create that cycle