Federal Fiscal and Monetary Policy Quiz

Federal Fiscal and Monetary Policy Learning Objectives

• Students should be able to recall two ways the federal government influences borrowing costs.
• Students should be able to define fiscal policy and the branches of government that implement it.
• Students should be able to describe how government spending and federal deficits are financed through debt.
• Students should be able to explain how taxation is used to implement social policy regarding real property.
• Students should be able to summarize the historical reasons for government regulation of depository institutions.
• Students should be able to outline the organization of the Federal Reserve System.
• Students should be able to discuss the relationship between Federal Reserve actions, inflation, and the health of the economy.
• Students should be able to list the tools used by the Federal Reserve to implement monetary policy.

Suggested Lesson Plan

• Students review the previous chapter on finance and investment using exercise 2.1.
• Students receive a brief overview and review the learning objectives for Chapter 2.

Government Influences on Finance

• The federal government influences real estate finance by impacting the cost of mortgage funds.
• Market interest rates reflect the cost of borrowing, which is affected by supply and demand.
• Fiscal policy (spending and debt financing, and taxation) and monetary policy impact the cost of borrowing.

Fiscal Policy

• Fiscal policy is determined by legislative and executive branches, carried out by the US Treasury.
• A federal deficit occurs when government spending exceeds revenue.
• To cover deficits, the government sells interest-bearing securities to investors.
• Some economists believe federal deficits have little effect on interest rates while others believe deficits increase interest rates.

Taxation

• Taxation affects mortgage rates by influencing the amount of money available for lending or investment.
• Tax exemptions, deductions, and exclusions affect mortgage demand.
• Interest on home mortgages is deductible, reducing tax obligations; interest on home equity loans is deductible if the funds are used for substantial home improvements but not if the total loan exceeds $750,000, beginning in 2018.
• The gain from selling a primary residence up to a certain amount is potentially tax-excluded ($250,000 for individuals, $500,000 for couples).
• Investors may take depreciation deductions.

Monetary Policy

• Federal monetary policy involves controlling the money supply, executed by the Federal Reserve System.
• Banks were first regulated in 1863 with the National Bank Act, which laid out supervisory procedures.
• The Federal Reserve System was established in 1913 and 1916.
• The Federal Reserve acts as a lender of last resort, supplying short-term loans to banks facing liquidity issues.
• The Federal Reserve, formed as a decentralized system with 12 regional banks, has evolved into a crucial economic player.

Tools for Implementing Monetary Policy

• Reserve requirements: Banks must maintain a percentage of their deposits. An increase in reserves reduces the ability of banks to lend and increases interest rates; a decrease has the opposite effect.
• Interest Rates: The Federal Reserve controls the federal funds rate (rate banks charge each other for loans) and the discount rate (rate Fed charges banks for loans). Raising interest rates can curb inflation whilst lowering interest rates can stimulate economic activity by making borrowing cheaper.
• Open Market Operations: Buying or selling government securities to adjust the money supply. Buying securities increases the money supply and lowers interest rates; selling decreases the money supply and raises rates.