Economic recovery- effectiveness of monetary policies

[ray245]

Often, I keep seeing people who likes to suggest monetary policies as a tool to bring US out of the recession, and people who argued that it is more effective than fiscal policies.

I have to question the effectiveness of a monetary policy, and it's ability to bring a nation out of a recession. I mean if a nation is in a recession where jobs aren't secure, reducing interest rates might not be able to drive people to spend their money.

So, is monetary policies an effective tool for economic recovery?

[TheKwas]

For the current recession: no. The monetary solution has been pretty much tried to death, the interest rate is bordering 0 and can't go much lower without taxing savings or some other scheme to make the effective interest rate negative. The only real role monetary policies will play now is inflation and how much the Fed Reserve will allow.

However, as a general tool for fighting recessions, yes monetary policies are pretty important.

[Surlethe]

Monetary policy assumes that the banks are willing to lend money. If they are - i.e., it's a normal recession - then it generally works to drive consumption up. For example, see the Fed's treatment of the 2001 recession and the 1980-2 recessions. If they are not, it has little to no effect, which is why the recent recession didn't end so quickly.

[aerius]

Monetary policy assumes that the banks are willing to lend money. If they are - i.e., it's a normal recession - then it generally works to drive consumption up.

It also assumes that people can and want to borrow money, if the banks are willing to lend but no one wants to borrow, the money still gets stuck and it ain't circulating & multiplying to create growth.

[PeZook]

Monetary policies are like money itself: they support the economy. Bad monetary policy can kill an economy, but even the best, well-thought out policy won't save it all by itself if the economy has other problems than money supply. All money is only as good as the hands that hold them, after all.

[J]

It depends on the root cause of the recession. In an inventory led recession such as the dotcom bust where the economic & financial systems are fundamentally sound for the most part, it's possible to use monetary policy to speed up the recovery.

If the problem is a credit crunch and unsound financial system as in the Great Depression, Japan's lost decade, and the current depression recession which we just recovered from, monetary policy does not work.

[JointStrikeFighter]

Monetary policy would have worked fine had it not been for crippling lack of banking sector regulation in the US flooding the economy with cheap credit and consequent rises in aggregate demand far in excess of equilibrium.

[Serafine666]

I had an economics teacher who did a really effective illustration of how monetary policy works in the American economy. He used a piece of string and illustrated the Federal Reserve tightening money supply as pulling the string. He then illustrated the Federal Reserve loosening money supply as trying to move something by pushing the string. Needless to say, one of those things resulted in the economy (in this case, a pencil) moving and the other did not. His point was that while reducing the amount of money that banks lend is very likely to accomplish something, increasing the amount isn't a guarantee of anything; as others have pointed out, making it easier to lend doesn't make banks lend or consumers borrow and so you can have a 0% federal funds rate without anything happening.