CASE 8:

WILL FED'S "EASY

MONEY" PUSH UP
PRICES?
I.CASE CONTEXT/BACKGROUND
Federal Reserve has held a short-term interest rate and has printed
Money more than $2 trillion. According to FED Chairman, Mr. Ben Bernanke
people would think this action will be inflationary but he doesn’t see and
believe in that. Arguments against his views were presented in the case
and is stated below:
More Money Means more Inflation.
For Friedman, Inflation was never a cost-push or exchange rate
increase effect, but a national phenomenon produced by monetary
policy. Increasing the money supply faster than the growth in actual
output will cause Inflation. The reason is that there is more money
chasing the same number of goods.
I.CASE CONTEXT/BACKGROUND
Friedman has a point, but it can only be true in the long run as it is
hard to predict over the next coming years.

The Fed’s money-printing has increased the money supply. Banks

have parked at the Fed about $1.5 trillion more than their required
reserves. Inflation-phobes predict those reserves will someday turn
into loans, flooding the economy with credit and triggering inflation.

In contrary to this argument, Chairman Bernanke said that they have

enough tools to control their monetary policy to avoid Inflation.
I.CASE CONTEXT/BACKGROUND
The Fed Will Get Inflation Because It wants It.
This argument comes in two forms.
a. The historical fact that debtor governments end up with inflation
because it allows them to repay debts with cheapened currency.

b. According to academics, higher inflation would rouse the economy

from its torpor. With inflation close to 2%, today’s zero interest rates
work out to minus 2%, adjusted for inflation. Given the weak economy,
the Fed would like inflation-adjusted interest rates to be even lower so
more people borrow.
I.CASE CONTEXT/BACKGROUND
However, Chairman Bernanke and Chairwoman Janet Yellen reject this
argument. They say it would undermine the Fed’s hard-won victory
over inflation in the 1980s. Take the Fed at its word; It doesn’t want
inflation.

The Fed Doesn’t Want Inflation, But Will Get It Anyway

Given that there were so many ways to avoid the Inflation and FED
doesn’t want it, they can’t change the fact that it will still happen.
Fed has said it would tolerate inflation slightly above the 2% target if
unemployment remains high. If something causes consumers,
I.CASE CONTEXT/BACKGROUND
businesses and markets to expect more inflation, it will be tougher for
the Fed to avoid it. There also is the possibility that the Fed will
misread the economy and wait too long to raise interest rates.
II. PROBLEM DEFINITION
AND POINT OF VIEW
PROBLEM
DEFINITION
Easy money is when the Fed
increases money supply to
expand economy. With this,
lower interest rates are
present. The implementation
of this monetary policy
comes with problems which
are as follows:
1 Fear of Inflation.
Labor productivity has
barely improved and
2 wages have been
stagnant.
Fed can’t force people to
3 use easy money or the
banks to lend.
Reserves will eventually
4 turn into loans.
 Point of View
Taken
Fed Chairman Ben Bernanke who
doesn't believe that "easy money"
could cause inflation. Federal
Reserve is trying its best to keep
inflation low and doing its ways to
avoid this kind of situation. They
insist that they all have enough tools
that are needed to undo the
monetary-policy stimulus and take
that away before inflation becomes
the problem. These claims are
acceptable but can't guarantee to
have a positive result.
III. FRAMEWORK FOR
ANALYSIS AND
AREAS FOR
CONSIDERATION
III. FRAMEWORK FOR ANALYSIS AND AREAS FOR
CONSIDERATION

The relationship
between money
growth and inflation
rates.
III. FRAMEWORK FOR ANALYSIS AND AREAS FOR
CONSIDERATION

In the long run, the

velocity of money is stable, so that controlling inflation
means controlling the growth of the money aggregates.
 IV. Analysis
1

Investment adds to the country's capital

stock as it depreciate over time, and the
quantity of capital available to an
economy is a crucial determinant of the
country's productivity. Investment thus
contributes and important to economic
growth.
 IV. Analysis
2

The Fed or the FOMC will continuously

buy US treasuries until the economy
reaches higher if not full employment
rate, keeping the inflation at 2%. This is
a tool that would increase money supply
in the economy.
 IV. Analysis
2

The reserve requirement is the basis for

all the Fed's other tools. If the bank
doesn't have enough on hand to meet its
reserve, it borrows from other banks.
 IV. Analysis
3

During a slow economy, the Fed

encourages growth in the economy and
the money supply by reducing reserve
requirements and lowering the discount
rate.
 V. DECISION/ RECOMMENDATION
In line with the problems stated earlier, the following
recommendations are proposed:
Public fear of inflation will likely be a factor to trigger inflation. This
should be prevented by being more transparent to the public on
what is really going on in the economy. Aside from that, Fed should
assure and instil confidence to people to support the activity.
Direct the Federal Open Market Committee (FOMC) to purchase
U.S. Treasuries on the open market.
Fed should lower reserve requirement so banks won’t have to keep
assets in cash thus having more deposits to lend.
Fed should also lower discount rate.
 V. DECISION/ RECOMMENDATION
Justification For Chosen Recommendations
Fear of inflation would likely to cause investors to pull out
investments. This would largely affect banks and different
companies if investors all pulled out at the same time. Inflation
scare should be avoided and the Fed should assure the public that
the economy is far from experiencing inflation.
By directing the FOMC to purchase US Treasuries on the open
market, money supply will increase. When FOMC purchases
treasuries, they give money to the sellers which then the sellers will
deposit to the banks. Fed
 V. DECISION/ RECOMMENDATION
Justification For Chosen Recommendations
requires reserves and the bank will be free to lend the excess to the
public and earn interests, then the borrowers will deposit the
money in their own bank accounts and the cycle continues.
If the reserve requirements for banks are lower, then banks will
have more to lend. As there is more to lend, the rate might become
lower and borrowing will be cheaper making more people attracted
to borrowing money.
Lower discount rate will make borrowing from Fed cheaper. It will
then be easier banks to access funds from Fed to lend to
customers.