The Role of the U.S. Government
The purpose of this study is to comprehensively elucidate and signify the role of U.S - The Role of the U.S. Government introduction. government in promoting efficiency, equity, economic stability and growth. Moreover, the study examines the policies implemented by the Federal Reserve board and how the institution can impact the business for Mortgage firms. The research has been conducted and analyzed through secondary resources and the results formulate that the increase (decrease) in interest rates by the Federal Reserve Bank have a positive (negative) effect on the growth of business in Mortgage firms.
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1. Define/explain the US government’s role in efficiency?
The US government in its mandate has clearly devised that whatever new policies being implemented for the public interest should not in any way hamper the promotion of efficiency, competition and capital formation (Section 77b. Definitions, 2009). The reason for promoting competition is firstly to enhance consumer welfare by providing goods and services at competitive prices, secondly to increase efficiency and productivity of the suppliers and thirdly to increase innovational techniques to formulate new products giving rise to new market segments inexistent in the past resulting in growth of economy. The U.S government is able to promote efficiency through less bureaucratic intervention in the market however the government intrudes through anti-trust laws if two competitive forces merge together to create a monopoly and hence raise prices which impede the consumer welfare or exclude competition (Kolasky, 2002).
2. Define/explain the US government’s role in equity for market economy?
While promoting competition and efficiency, some of the groups in a society are not able to be equally productive (for e.g., children and elderly) but they still need the basic necessities to lead a normal life. Moreover, inequality in income does not only depend on productivity and efficiency but also on power and property rights. Therefore, the US government through taxes and expenditure programs spend in healthcare, welfare and education also illustrated in the table below.
(Source: Bureau of Economic Analysis, 2007)
During the current recession, the government provides various programs which include providing food stamps to the unemployed who can then buy grocery at free or subsidized rates for their family while also attending training classes for increase their probability in getting jobs (Hawkins, 2009).
3. Define/explain the US government’s role in macroeconomic stability and growth for a market economy?
Although US is a capitalistic economy where prices of goods and services are determined by the demand of consumers and the supply by vendors, the US government plays a pivotal role in maintaining the stability in its economy (American Government and Politics online, 2010). The government’s policy can be broken down into two specific categories:
a) Monetary policy
1977 amendment of the Federal Reserve Act describes specifically the goals of the monetary policy which is “promote maximum sustainable output and employment and to promote stable prices” (Federal Reserve Bank of San Francisco, 2010). The federal reserves control the money supply which is primarily based on changing interest rates according to the economic situation of the country. If the country is going through a challenging time and the demand for goods or services decreases, the FED would lower interest rates to maintain the maximum output it was achieving resulting in less unemployment whereas if the economy is booming, it would increase the interest rate to stop inflation from increasing (American Government and Politics online, 2010; Federal Reserve Bank of San Francisco, 2010).
b) Fiscal policy
The federal government through this policy determines which business and individual will be taxed, the rates for taxation and the how the tax will be distributed.
4. Explain the Federal Reserve’s Board three policy tools?
The three tools used by Federal Reserve’s Board to control the amount of reserves in banks are:
a) Open market operations
This is the major and the most flexible tool used by FRB to steer short term interest rates by buying and selling securities such as treasury bonds, notes and bills. It can lower interest rate by FRB buying securities from banks resulting in banks having excess reserves. Since there is more amount of money in the market, banks can lend more resulting in interest rates getting lowered and consumers and businesses increasing their spending. The FRB can also reduce the money supply by selling its securities leading to banks having less reserves to lend and hence increasing the interest rates (Edwards, 1997).
b) Discount rate
Discount rate is the interest rate that banks and other depository institutions need to pay on loans they take from FRB. The bank offers three discount window programs namely primary credit, secondary credit and seasonal credit (The Discount Rate, 2010). This rate is usually higher than the federal funds rates as FRB wants banks to seek alternative funding before they use the discount rate option. Lower interest rates provides stimulus for consumers and business to spend more while higher interest rates leads to increase in cost of borrowing hence a slowdown in economy.
c) Reserve requirements
Reserve requirement are the percentage of minimum reserves that banks must hold in form of vault cash or on deposits at FRB (Reserve Requirements, 2007). Increase in the cash reserve ratio decreases the liquidity for banks hence affecting the interest rates, therefore FRB rarely alter the reserve requirements in US.
5. What is the impact on the mortgage firm and overall economy if the Federal Reserve Board lowers interest rates?
As discussed earlier, Federal Reserve Board has the responsibility to promote economic growth by managing inflation however they do not directly affect the interest rates on deposits being provided by the banks. On the other hand, FRB changes the federal fund rates provided to banks through its three economic policy tools and banks pass along these interest rates to the consumers (Snelling, 2010).
However, it should be noted that discount rates are short term-loans given to banks and depository institutions whereas mortgage rate is market determined interest rates for long term loans. Therefore at times, short time interest rate may not have an impact on mortgage rates. This can be exemplified by a discount rate reduction of 1.25 percent in 2001 by FRB but the mortgage rate fell to a very little extent (Federal Reserve Bank of Sanfrancisco, 2002).
As illustrated in the graph below, the discount rate and mortgage rate usually tends to move together and therefore it can be concluded that as the FRB reduces the interest rates, consumers tend to spend more hence creating a stimulus in the economy. Therefore, the lowering of interest rates positively affect the business mortgage firm as consumers tend to buy properties as well as re-finance their mortgage loans.
(Source: Federal Reserve Bank of Sanfrancisco, 2002).
American Government and Politics online. (2010). Retrieved April 27, 2010, from This Nation: http://www.thisnation.com/economic.html
Edwards, C. L. (1997). Open Market Operations in the 1990s. Retrieved April 25, 2010, from Federal Reserve Bulletin: http://www.federalreserve.gov/pubs/bulletin/1997/199711lead.pdf
Federal Reserve Bank of San Francisco. (2010). Retrieved April 25, 2010, from http://www.frbsf.org/publications/federalreserve/monetary/goals.html
Federal Reserve Bank of Sanfrancisco. (2002). Retrieved April 25, 2010, from http://www.frbsf.org/education/activities/drecon/2002/0206.html
Hawkins, D. (2009). How to apply for food stamps. Retrieved April 25, 2010, from Helium: http://www.helium.com/items/1706111-how-to-apply-for-food-stamps
Kolasky, W. J. (2002). Department of Justice. Retrieved April 24, 2010, from http://www.justice.gov/atr/public/speeches/200484.htm
Reserve Requirements. (2007). Retrieved April 27, 2010, from Federal Reserve Bank of New York: http://www.newyorkfed.org/aboutthefed/fedpoint/fed45.html
Section 77b. Definitions. (2009). Retrieved April 27, 2010, from Cornell University Law School: http://www.law.cornell.edu/uscode/15/usc_sec_15_00000077—b000-.html
Snelling, S. B. (2010). Why Mortgage Interest Rates fluctuate. Retrieved April 24, 2010, from Home Space: http://www.homespace.com/budgeting/why-mortgage-interest-rates-fluctuate/
The Discount Rate. (2010). Retrieved April 26, 2010, from Board of Governers of the Federal Reserve System: http://www.federalreserve.gov/monetarypolicy/discountrate.htm