Unit 8

The Conference Board releases information about the economy on a monthly basis. Included are a number of different indicators. Economic indicators can be leading, lagging, or coincidental, which indicates the timing of their changes relative to how the economy as a whole changes. Which of the following is a lagging economic indicator? A) Building permits (housing starts) B) Manufacturers' new orders for consumer goods C) Average prime rate D) Nonagricultural employment

C) Average prime rate Both the S&P 500 and housing permits are leading economic indicators, as is the measure of hours worked because it reflects changes in the average workweek during the current period. The average prime rate is a lagging indicator because, in an economic downturn, the longer rates stay low, the quicker the recovery should be. U8LO3

If the yield curve becomes inverted, a likely cause would be that the Fed has A) tightened long-term credit B) loosened short-term credit C) tightened short-term credit D) loosened long-term credit

C. The Fed's influence on rates is primarily on the short end of the yield curve. Both the discount rate, which it sets, and the federal funds rate, which it influences, are short-term rates. The Fed tightens short-term credit when the economy appears to be overheating. To slow things down, the Fed raises short-term rates to extremely high levels. U8LO4

Troughs are characterized by

Change from negative to positive GDP growth rate High unemployment rate -Increasing use of overtime and temporary workers Spending on consumer durable goods and housing may increase Moderate or decreasing inflation rate

To reflect a more accurate picture of economic results, gross domestic product is adjusted A) to match foreign GDP B) downward by the balance of payments C) to include bank reserves D) for inflation

D) for inflation By adjusting GDP for inflation, one can measure economic activity with less distortion. A constant dollar adjustment is made to remove the effects of inflation. U8LO2

Core inflation

Excludes certain volatile goods prices measured using a price index that excludes food and energy prices.

Sector Rotation

Follows business cycle Sell those sectors that are peaking Buy those sectors that are expanding

Defensive industry

Food/Utilities

Expansion is characterized by

Increasing rate of inflation Increasing industrial production -Decreasing unemployment -Falling inventories -Rising stock markets -Rising property values -Increasing GDP

Counter cyclical industry

Moves in opposite direction of market

Cyclical industry

Moves with the economy

Contractions are characterized by

Rising numbers of bankruptcies and bond defaults Decreasing hours worked -Increasing unemployment rate Decreasing consumer spending, home construction, and business investment Falling stock markets Decrease to the inflation rate Rising inventories (Slackening consumer demand) Negative growth rate for GDP

The balance of payments

measures all the nation's import and export transactions with those of other countries for the year. The balance of payments account contains all payments and liabilities to foreigners (debits) and all payments and obligations (credits) received from foreigners.

Fiscal policy

refers to a government's use of spending and taxation to influence economic activity. Actions of Congress and the President Government spending and taxation

Final approval of the annual operating budget for the United States is given by

the Congress The United States Congress is responsible for voting approval of the budget submitted by the president. U8LO1

Monetary policy is under the control of

the Federal Reserve Board

the fiscal policy of the United States is determined by

the President and Congress through the process of budgeting and taxation. The budget is presented by the President and approved by the Congress.

The prime rate

the most preferential interest rate on corporate loans at large U.S. money center commercial banks. Each bank sets its own prime rate, with larger banks generally setting the rate that other banks follow. Banks lower their prime rates when the Fed eases the money supply and raise rates when the Fed contracts the money supply.

The federal funds rate is

the rate banks that are members of the Federal Reserve System charge each other for overnight loans of $1 million or more. market rate determined by the demand for bank reserves on the part of deposit-based financial institutions. considered a barometer of the direction of short-term interest rates

Internal Inflation

An economic condition where the rate of price increases reaches a stable equilibrium and stays there until a shock to the system occurs, at which time, the rate of inflation changes

Peaks are characterized by

Decrease in GDP growth rate Decrease to the unemployment rate -But slow down in hiring Slower rate of growth in consumer spending and business investment Increase to the inflation rate

Which of the following statements about the federal government's fiscal policy is TRUE? I. The federal government's fiscal policy is its policy for managing taxation, spending, and debts. II. The federal government's fiscal policy can have a great impact on the securities markets. III. The federal government finances its deficit spending by selling bonds.

I, II, and III. The federal government's fiscal policy establishes the government's taxation, spending, and debt practices. Fiscal policy can affect the securities markets because it can be used to regulate prices, employment, and economic growth. If fiscal policy includes deficit spending, the government sells bonds to make up the deficit. U8LO1

You note that an article in the Wall Street Journal points out that the money supply has been increasing. This economic measure is A) a leading indicator B) a coincident indicator C) a lagging indicator D) a GDP deflator

Among the list of leading indicators is the money supply. U8LO3

4 Phases of the Business Cycle

Expansion - Inflation Peak Decline -2 consecutive quarters (6 months) of decline = Recession -Depression = six consecutive quarters Trough Recovery (Expansion again)

inflation inertia

This is the concept that the rate of inflation does not immediately react to unexpected changes in economic conditions. Rather, it lags behind, sometimes for several quarters, before there is an effect.

Changes in the discount rate.

This is the rate the Fed charges member banks when lending them money. Higher rates discourage borrowing, reducing the money supply with lower rates having an opposite effect.

The FRB establishes the

discount rate. The discount rate, unlike the federal funds rate, is a managed rate. It is one of the tools of monetary policy

deflation

general decline in prices. usually occurs during severe recessions when unemployment is on the rise. When the GDP is negative, it is generally a sign of deflation.

Monetary policy

refers to the central bank's actions that affect the quantity of money and credit in an economy to influence economic activity. Policy of the FRB Discount rate (set by the Fed) Reserve requirement (most drastic) Open-market operations (most frequently used)