BUSI 101 – Project 2

Jatinderpal Gill
Student#: 3005301
1. Fiscal Policy is a very precise tool for controlling aggregate demand. Fiscal Policy is definitely a
very precise tool for controlling aggregate demand, but it is not precise on the outcomes of the
control. The aggregate demand curve may shift left or right depending on the fiscal policy that
is injected into the economy but that does not mean it will be a total benefit for the country’s
population.

The statement in question 1 is correct for stating aggregate demand can be increased by
government spending, but that does not mean the figure that the government spends will
match the increase in aggregate demand.

As mentioned in Chapter 15 of ‘Principles of Macroeconomics’, each dollar spent by the

government can raise the aggregate demand for goods and services by more than a dollar,
which relates to the multiplier effect on aggregate demand. This does make sense for a closed
economy, but there is a major difference when we discuss an open economy such as Canada.

Open economies work differently as interest rates of a nation move up and down with changes
to the world interest rate. In this open economy, the government purchases are not enough to
raise the interest rate and output. This increase in in the interest rate would cause a decrease in
net exports because the exchange rate would rise since the open market would have a greater
interest rate than the world rate, so buying Canadian assets would increase and buying foreign
assets would decrease.

2. Monetary Policy plays a very large role in the context of the housing market. The housing
market is directly affected by interest rates, which are correlated to mortgage credit rates, that
can cause the housing market to be a seller’s market or a buyer’s market. When a housing
market is becoming unstable, depending on the supply and demand in a given market,
monetary policies can be injected to provide stability to the market by either lowering or raising
the interest rate. Central Banks keep a close eye on this because of financial crises from the
past relating to booms and busts in the housing market such as 2008, which provides an
example of what monetary policies can achieve or not achieve if there is not enough support to
a specific market. As we have read in our textbook, the housing market affects aggregate
demand through construction activity and influences consumption.

If the interest rate is lowered through monetary policy, we see a shift in the housing market to
people purchasing more assets at this lower rate because of affordability. With this lower
interest rate, we see the market start to aggressively boom because there is more wealth being
directed to the housing market and prices start to rise since there is high demand and
eventually low supply. In this time of a low interest rate, borrowing increases substantially and
this also causes the money supply to increase.

On the other hand, if interest rates are raised through monetary policy, we see the complete
opposite, the market begins to cool down. An increase in the interest rate pushes out a large
number of potential buyers such as first-time buyers or low net worth individuals looking to
invest, sellers are also affected as the supply of housing continues to rise but the demand has
fallen from the increase in the interest rate.

There are a number of conditions that can counteract these impacts on the housing market.
One of these conditions is the Central Bank buying and selling foreign exchange to stabilize the
international value of their own nation’s currency. If Canada was to change a monetary policy
on housing which caused higher interest rates, the entral Bank could also increase its foreign
currency exchange to drive up the value of the dollar so that we see an increase on foreign
investment which would help the elevate the housing market monetary policy somewhat. The
second condition to counteract could be the addition of more density to projects in an area. If it
becomes more expensive to purchase a new home in a certain city or province, expanding the
density of development areas could be beneficial because there could be more affordable
 properties built in the area. An example of this would be if a family was looking to purchase a
home in Langley but now with a higher interest rate, it is less affordable for them to buy, so
they would now need to look for something else in their price range. If the city allowed for
more development areas to have a larger density, this problem could be fixed, there could be
developments allowing for more units which increase the supply of the product. Now that
family that could not afford the single-family home may purchase a townhome of a similar size
for a more affordable price than the single-family house.

3. Government programs of tax or inflation policies definitely can affect home prices, directly or
indirectly.

The first example of how a government program can affect house prices is the first-time home
buyers grant. This grant allows those buyers that are purchasing their first home to receive a
grant to assist them in being able to secure a property that may be out of their price range. This
directly affects the house price since a first-time home buyer may be able to secure a property
over someone that is looking to purchase an investment property but does not have the extra
capital as the first-time buyer now does through the grant.

The second example details a government tax that can affect housing prices, a foreign buyer’s
tax. This is a tax that the government implements on all foreign buyers so that housing prices
do not increase exponentially and pushes away local investors or first-time buyers to purchase
in areas. This tax, in theory, is supposed to prohibit foreign buyers from wanting to invest in an
area with the tax because they will be paying a much higher price for a property and allow local
investors to purchase a property, but as seen in the Vancouver market, foreigners do not mind
paying the tax because they know that the prices will continue to increase in the Vancouver
area and the government is not pushing back since they are receive a large tax on each sale.
4. Table describing the direction of different Variables changing in response to specific events.

VARIABLE
Canadian real
Canadian Canadian Canadian Canadian exchange
real interest mortgage domestic net capital rate of
rate rates investment outflow domestic
currency
Canadian
government
Rises Rises Falls Falls Falls
budget deficit
EVEN
increases
T
Canada imposes No
Falls Falls Rises Rises
import quotas Change

Capital flight
Rises Rises Rises Rises Rises
from Canada

5. The case for active monetary and fiscal policy would be if policy is needed to stabilize the
economy to offset from harmful effects of economic fluctuations. Current events affecting
Canada that would benefit from monetary and fiscal policy would be the housing market, stock
market and the conflict in Ukraine.

The case against monetary policy would be to achieve long-run goals rather than short-run.
When there is a change in monetary or fiscal policy there is a lag, which is a period of time that
it actually takes for that policy to affect what is being changed. Most companies and
organizations prepare well in advance for changes to the economy so the short run policies do
not do enough to solve the issues. An active monetary policy may help in the short run but
there will be lag for the long run, on the other hand fiscal policy could, be a better answer since
it will be viewed and work in a more long-term setting.
 As seen in the 2007 to 2009 recession, Canada benefited from having a financial sector that
prepared well and reacted in real time to the falls of the economy. Aggregate demand can be
stimulated in a recession without new stabilization policies if the economy in question is well
prepared with the right monetary policies already in place and has a financial sector, such as
Canada, to have a flexible exchange rate and be able to increase liquidity in the financial
markets to counteract the effects of a recession.

6. Monetary Policy and Housing Markets: Side Effects

The keyword I chose for my internet research project is Monetary Policy and Housing Markets.
The weblink that I found to relate to what I was searching for was Ecoscope – Monetary Policy
and Housing Markets created by Professor Dr Ernest Gnan. Dr Gnan is well versed in economics
and monetary policy as he is the Head of Oesterreichische National Bank’s Economic Analysis
Division, also a member of the European Central Bank’s Monetary Policy Committee and an
expert member of the Austrian Fiscal Council.

With such an extensive background in the field of economics and policy, Dr Gnan is a leading
expert that gives his input in current and future analysis of many different economic policies
that affect certain economies. This article was written by Dr Gnan for the European Money and
Finance Forum to describe the relationship between Monetary Policy and the Housing Markets
pertaining to what side effects can be seen with the implementation of policies.

The article starts off by describing exactly what our textbooks have been teaching us, which is
monetary policy influences housing prices through the level of interest rates. It discusses the
affects to aggregate demand from construction activity and consumption, detailing the role of
Central Banks and how previous policies have been too crude. He elaborates on a new class of
instruments called macroprudential policies to fill the gaps previous monetary policies missed
in the Global Financial Crisis.
He also brings up a valid point regarding monetary policies being effective at containing an
economic fallout through COVID-19, but with side effects such as exponential rise in housing
prices and long-lasting unconventional monetary policy measures, we need to look at what will
happen to bounce back from the COVID-19 crisis.

As the article progresses, we see Dr Gnan touch on short-term and long-term interest rates and
their direct correlation to mortgage credit rates. Another point we have been studying in great
depth with this course is supply and demand of products and services, so Dr Gnan touching on
the affordability of purchasing a home makes sense and lets us know the great importance of
the affect an interest rate can cause.

The next section of the article digs deep into “Looser Monetary Policy”, which I believe was not
described so well in our texts and assignments. Our work through this course did a great job at
letting us know what happens with high and low interest rates but didn’t give a simple example
that makes sense to all, so this next section in the article was important. When monetary policy
is introduced in a market that raises real estate prices, we see 2 major changes in households.
The first is that households that already have a home feel richer and can take out additional
mortgages to finance expenditures causing a positive wealth effect. The second is with such
high prices, young households looking for real estate need to spend more on purchasing a
home while also having to spend more on consumption, causing a negative income effect.

Mostly thereafter the article digs into how housing booms and busts can threaten financial and
macroeconomic stability, but it also touches on the new tools such as macroprudential policies
such as raising loan-to-value ratios or loan service-to-income rations applied by banks when
granting house credits.

The biggest takeaway to close the article is the side effects of an economy bouncing back from
COVID-19. Dr Gnan talks about Central Banks being aware of the potential side effects from the
covid crisis and responding directly to where policy is needed, but he says something that
struck out to myself, “Not even the best medicine comes without side effects”, this makes a
person really think outside of the box and imagine monetary policy as a medication to help
alleviate a disease or issue, but in trying to fix that issue there is a derivative of side effects no
one knows will happen until they occur.

I work in the real estate business but touch on a number of industries within it such as research,
valuation, sales and marketing, so an article like this really helps to understand the bigger
picture. I definitely agree with Dr Gnan, mostly because he is an expert in this field and I have
seen some of the things he discussed first hand in the market and continue to see it. Ever since I
got into international real estate, it has been a learning curve to understand prices and market
levels within each of the countries I work in, but the overall picture of monetary policy in the
housing market has stayed the same, interest rates affect housing prices the most, but there is
a number of side effects from policies that really can throw a wrench in the plans for an
economy to run efficiently.