Monetary and Fiscal Policies
The 2007-2009 financial crises led to the Great Recession in the U.S. and the world, leading to the European debt crisis and the Japanese exacerbation of economic stagnation Šehović (2015). The GDP in the U.S. was 5.2 percent between the beginning of 2008 and the beginning of 2010. The U.S. crisis peaked at the Lehman Brothers Investment Bank, which declared bankruptcy in 2008. This led to a mass loss of jobs and investments. Many central banks across the developed nations, including the European Central Bank, Bank of Japan, and the Federal Reserve Bank, opted to utilize unconventional monetary policies, mainly Quantitative Easing (Q.E.), to stimulate their respective economies. The conventional monetary policy in the U.S. proved to be ineffective. Though the Q.E. works at the direct lowering of interest rates in the long term, it is weak in reviving an economy characterized by an excessively indebted private sector attempting to deleverage (Šehović, 2015). Hence, fiscal policy becomes an essential stimulant for investment and spending in an over-indebted economy.
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Monetary policy only indirectly stimulates aggregated demand (Dillard, 2018). The monetary policy does not increase the private sector’s net wealth; it only changes the composition of its assets. Fullwiler & Wray (2010) argue that when the private sector treasures are converted into deposits (this is what Q.E. does), it does not need to induce more spending by the private sector. When the central bank buys securities to increase the private sector’s deposits, the wealth of the private sector remains constant. Even when the private sector does spending, it is done from existing wealth and not because of a wealth increase.
Moreover, when the economy is heavily indebted, a monetary policy that stimulates borrowing is not the best solution. In such a case, Q.E., which aims to encourage spending, investment, and lower interest, is also ineffective. The private sector increases its spending if there is an increase in its financial wealth, and this can only be possible through fiscal policy.
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References
Dillard, D. (2018). The Economics of John Maynard Keynes: The Theory of a Monetary Economy. Pickle Partners Publishing.
Fullwiler, S. T., & Wray, L. R. (2010). Quantitative Easing and Proposals for Reform of Monetary Policy Operations. Bard College Levy Economics Institute Working Paper, (645).
Šehović, D. (2015). The Impact of the Great Recession on Monetary and Fiscal Policy in Developed Market Economies. Business Systems Research Journal: International Journal of the Society for Advancing Business & Information Technology (BIT), 6(1), 56-71.
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Question 
Recession Recovery
Discussion Prompt: Monetary and Fiscal Policies
Which was more effective in getting us out of the Great Recession of 2007-8, monetary or fiscal policy?
Monetary and Fiscal Policies
Use the case on the American Recovery and Reinvestment Act (2.3) of our Taking Sides text listed in the Session 2 Readings and your research on the Federal Reserve to support your response to this question.
Reading Assignment
Bonello, F., & Lobo, I. (2015). Taking sides: Clashing views on economic issues (16th ed.).
- 3 Did the American Recovery and Reinvestment Act of 2009 Create Jobs?
- 5 Can U.S. Deficit and Debt Problems Be Solved Without Increases in Taxes?
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