Macroeconomic Impact On Business Operations

Monetary Policy and Its Effect on Macroeconomic Factors Such As GDP, Unemployment, Inflation, and Interest Rates

Macroeconomic Impact on Business Operations

Monetary policy is a tool that a national Government uses to influence its economy. This policy controls the money supply, influences interest rates and overall economical activities.

Monetary policy does have an affect on different macroeconomic factors. Such factors are GDP, which stands for gross domestic product, unemployment, inflation, and interest rates. The monetary policy affects all sorts of economic and financial decisions that consumers tend to make.

The goal for monetary policy is to achieve and main price-level stability, full employment and economic growth (McConnell and Brue, p. 268). It affects the consumer when they are trying to obtain a loan to purchase a new house or car or to even start a company, whether to expand a business or whether saving money in the bank. Furthermore, because the United States is the largest economy in the world, its monetary policy also has significant economic and financial effects on other countries. Monetary policy that persistently attempts to keep short-term real rates low will lead eventually to higher inflation and higher nominal interest rates, with no permanent increases in the growth of output or decreases in unemployment.

Inflation is the loss in purchasing power of a currency unit such as the dollar, usually expressed as a general rise in the prices of goods and services. When inflation occurs, fewer products and services are purchased. How does monetary policy affect inflation? Policy also affects inflation directly through people's expectations about future inflation. For example, suppose the Federal Reserve Bank eases monetary policy. If consumers and businesspeople figure that will mean higher inflation in the future, they will ask for larger increases in wages and prices. That in itself will raise inflation without big changes in employment and output.

GDP, which stands gross domestic product, is the total market value of all final good and services produced in a given year. It is calculated by adding together the market values of all of the final goods and services produced in a year. GDP is a measure of the state of the economy. Some economists speak of recession when there has been a decline in GDP for two consecutive quarters. The GDP in dollars and real terms is a useful economic indicator.

One of the worst things a person could experience is unemployment. After one has been employed, and then unemployed, could be detrimental. It does not only affect the individual, but the family also. Today, unemployment is at a high percentage. It does not stimulate the economy. The unemployment rate is the unemployed divided by the work force and should be interpreted as the percentage of people in the work force who do not have jobs and are actively seeking them (McGraw, p. 31, ch. 2).

There are several tools used by the Federal Reserve to control money supply. Those tools are Discount Rate (DR), Federal Funds Rate (FFR), Required Reserve Ratio (RRR), and Open Market Operations (OMO). The Federal Reserve, nicknamed the "Fed" has been the central bank of the United States since it was established in 1913. The main intention of the central bank is to regulate the supply of money and credit to the economy.

Commercial bank places a charge of interest on the loans that they grant. The Federal Reserve Banks also place a charge of interest on the loans that they grant to the commercial banks. This interest rate is called Discount Rate. The Federal Reserve Banks offer three discount window programs to depository institutions: primary credit, secondary credit, and seasonal credit, each with its own interest rate. All discount window loans are fully secured.

An easy monetary policy means that the Fed is trying to increase the supply of money by expanding excess reserves in order to stimulate the economy. They can do this by:

buying securities reduce the reserve ratio (done rarely), reduce the discount rate which will have a very small impact on the supply of money. Thus we see the policy most widely used by the fed is the open market operations of buying and selling securities. This is also known as an expansionary monetary policy because it makes loans less expensive so people will borrow more and aggregate demand, output and employment will all rise. A tight monetary policy or restrictive monetary policy is just the opposite. If there is a lot of spending and inflation is occurring the Fed wants to slow down the economy. They buy bonds, raise interest rates or increase the reserve ratio. (http://www.oswego.edu/~spizman/eco200ch15.html).

The Federal Reserve Banks focuses monetary policy on altering the Federal funds rate as needed to stabilize the economy. Recall that this is the interest rate that banks charge one another on overnight loans of reserves held at the Federal Reserve Banks, (McConnell & Brue, p. 280).

Federal funds interest rate increased could raise economic growth and help control inflation pressures, and could promote the sustainability of an economic expansion. If the increase is too excessive, then this could hinder economic growth. The Committee's actions on interest rates are undertaken to achieve the maximum rate of economic growth consistent with price stability and moderate long-term interest rates.

Reserve ratio changes a fragment of reserves required to be held by the Fed. Less money is available to give out if the reserve ratio increases and the supply of money decreases. The availability of money is at disposal if the reserve ratio goes decreases and the supply of money increases.

Open market operation is the imlementation of the monetary policy by which a central bank controls its national money supply by buying and selling government securities, or other instruments. The purchase or sale of Government securities in the "open market" which is also known as the secondary