U.S. Monetary Policy and What the Federal Reserve does.

According to the Congressional Budget Office monetary policy is, “The strategy of influencing movements of the money supply and interest rates to affect output and inflation. An "easy" monetary policy suggests faster growth of the money supply and initially lower short-term interest rates in an attempt to increase aggregate demand, but it may lead to a higher rate of inflation. A "tight" monetary policy suggests slower growth of the money supply and higher interest rates in the near term in an attempt to reduce inflationary pressure by lowering aggregate demand.” In the United States it is the Federal Reserve System that is responsible for defining and implementing these policies. In the United States the Federal Reserve is made up of a Board of Governors, which consists of seven members, all of whom are appointed by the president and confirmed by the Senate. Of these seven, the president appoints one to be chairman of the Board of Governors. The current chairman of the United States Federal Reserve is Alan Greenspan.

With the appointment of Alan Greenspan to chairman, monetary policy in the United States changed from a monetarism view, an approach based on a constant growth in the money supply, to a mixed policy. With a mixed policy, inflation is monitored and controled via the iterest rate that banks charge, along with an understanding of unemployment and business cycles.

Only a few days ago chairman Greenspan adressed congress and stated that the “central bank would keep raising interest rates and gave little hint of when it might stop.” This increase of the interest rate would tend to slow inflation as well as possably decrease labor costs and increase productivity. The Federal reserve “views labor costs as the most important source of inflation, both because labor costs amount to more than two-thirds of total costs and because they can feed a self-perpetuating spiral of higher prices and higher wage demands.”

So wat is the reason for the chairman of the Board of Governors to address congress? If the public is informed of the Federal reserves stance and commitment to lower or keep inflation in check we should see lower wages and in turn lower prices. If the public does not go along with the information put out by the Federal Reserve we will likely see a demand for higher wages which brings about higher prices and inflation.

Because of the impact of the interest rate on so many aspects of our economy it is one of the best tolls available to keep our econemy in a good balance as it moves its way through its never ending cycle of ups and downs.

References:
http://www.cbo.gov/showdoc.cfm?index=3280&sequence=0