Wednesday, July 8, 2009

lags in monetary policy

Monetary policy, like fiscal policy, takes time to work its way through the economic system. First the fed must recognize what the situation in the economy is. That isn't easy because often the data are ambiguous. Some statistics suggest the economy is expanding; some statistics suggest it is contracting. Then. The FOMC must develop a consensus for action, and change the fed funds target. The fed funds rate only affects overnight loans; the interest rates that affect the economy are longer term interest rates such as mortgage rates, business loan rates, and long-term bond rates. These change more slowly, adding more time to the lag. Once the long-term rates have changed, businesses and individuals have to change their plans in response to the interest rate change; such changes are often difficult, adding yet another lag to the process. So it can often be months before the monetary policy affects spending significantly.

No comments: