Spending Money

How is the federal budget different than the typical American’s?

What is fiscal policy?How did the Congressional Budget Act of

1974 change budgeting, if at all?

Why doesn’t economic health matter?

• The gov’t must respond not just to problems of economic health (majoritarian), but the demands of interest groups/voters (client politics)

• Voters believe they can have more and less spending at the same time!– If there is a deficit, belief that spending is too much,

not that gov’t is taxing too little– Yet, believe that gov’t should spend more on public

programs– This is reflected in the budget

Making a budget

• Budget—document that announces how much the gov’t will collect in taxes, spend in revenues, how expenditures will be allocated among programs– fiscal year—the year the budget covers (Oct. 1-Sept. 30);

named after year it ends

• In theory, should be based on first deciding how much money will be spent, then allocating– Instead, a list of everything the gov’t is going to spend money

on: not allocating, but adding up what’s being spent– No budget at all before 1921; committees in Congress did what

they wished until about 1974 (no real oversight)

Congressional Budget Act 1974• CBA 1974 to change this policy; prez submits a budget

in February to the two budget committees of Congress (1 H/1 S)– Committees look at it and analysis from Congressional Budget

Office (CBO)– Submit to their house a budget resolution—congressional

decision that states max amount gov’t should spend for the fiscal year

– Adoption should take place in May; committees select programs through appropriations process (summer)

• Appropriations (doling out of money) rarely make big changes in spending– 2/3 is mandatory spending—money goes to people who are

entitled to it (Medicare, SS, paying on bonds…)– Loophole: nothing in the process forces Congress to

tighten the “financial belt”– Procedures used by Congress can affect the policies adopted by

Congress

Did the Act work?

• CBA did not automatically lead to spending cuts; those concerned about deficit try to put a cap on spending– 1985 Balanced Budget Act (Gramm-Rudman Act) had a

provision called a sequester—automatic spending cuts across the board on all federal programs if failure to agree on total spending level—FAILURE

• 1990 new strategy– Congress votes for a tax increase– 1990 Budget Enforcement Act setting limits on discretionary

spending—spending not required by existing contracts, entitlements, or interest on debt (1/3 of total budget)

– If more was spent on one program, that of another would be reduced (expired 2001)

The Fed

• What are the three main parts of the Federal Reserve?

• What are the main jobs of the federal reserve? Be specific.

• How is monetary policy different than fiscal policy?

• Is your local bank part of the Fed?

• Video: “In Plain English” from the St. Louis Reserve Bank

The Federal ReserveWhat is the Fed?

How does the Fed help shape the economic conditions in the US?

How does the Fed implement monetary policy?

What is the Federal Reserve?

• Created by the U.S. Congress in 1913• U.S. lacked a way to study and implement

monetary policy, actions the Fed uses to influence the amount of money and credit in the U.S. economy– markets often unstable, little faith in banking system

• Fed is a politically independent entity, subject to oversight (periodical reviews) from Congress

• Headed by a government agency called the Board of Governors of the Federal Reserve

• 12 Federal Reserve Banks in major cities are supervised by the BOG– act as operating arm of the central bank and do most

of the work of the Fed– create income from four main sources:

• Services provided to banks • Interest earned on government securities--debt obligation

(local or national) backed by the credit and taxing power of a country with very little risk of default (bonds, bills…)

• Income from foreign currency held • Interest on loans to depository institutions (banks)

– Income from these used to finance daily operations like info. gathering/research. Any excess income is funneled back into the U.S. Treasury

• The system also includes the Federal Open Market Committee (FOMC), the policy-making branch of the Federal Reserve. – makes important decisions on interest rates and other

monetary policies

What does it do?• Mandate is "to promote sustainable growth, high levels of

employment, stability of prices to help preserve the purchasing power of the dollar and moderate long-term interest rates.”– sound banking system, healthy economy– serves as the banker's bank, the government's bank, the regulator of

financial institutions and nation's money manager• Issues all coin and paper currency

– U.S. Treasury actually produces the cash, Fed Banks distributes it to financial institutions.

– Check bills for wear, take damaged currency out of circulation• Federal Reserve Board (FRB) has regulatory and supervisory

responsibilities over banks– monitoring banks in the system, international banking in the U.S.,

foreign activities of member banks and the U.S. activities of foreign-owned banks

– helps develop federal laws governing consumer credit– the policeman for banking activities within the U.S. and abroad

How does it implement monetary policy?

• Primary responsibility of the Fed is devising and implementing monetary policy

• Changes to amount of money and credit affect interest rates—the cost of credit—and economic performance– if the cost of credit is reduced, more people and firms will borrow money

and the economy will grow• The Toolbox—main tools the Fed uses to influence monetary

policy:– Buying/selling federal gov’t securities (open-market operations)

• influences the level of reserves in the banking system• affect the volume and the price of credit• open market is where securities dealers compete; most frequently employed

tool– Regulating amount of money a member bank must have in reserves

• setting reserve requirements - funds banks are required to hold in reserve against deposits; determines how much money banks can create through loans and investments (10%)

– Changing interest charged to banks (borrowed from Fed)• setting the discount rate -the interest rate banks pay on short-term loans

from a Federal Reserve Bank; raise/lowering affects money banks lend