Another leading economic indicator to analyze the state of the economy is the unemployment rate. From 1989 to 1992 unemployment increased. Unemployment jumped 1.2% from 1990 to 1991. A strong indication of a recession. In 1992 unemployment increased .7% signaling a slow recovery from the recession. Business likely had fears about the recovery. A good indication of the economic outlook is the inflation rate of the economy. From 1990 to 1993 inflation was low and growing at a slowing rate. This slowing growth rate known as disinflation is typical in a recession. Disinflation is likely why at the end of the recession business where uncertain about the recovery, and not hiring in 1993. Disinflation is also confirmed by the decreasing growth of CPI, which is a lagging economic indicator.
An important indicator is the financial sector and the lending of the Federal Reserve and private banks. A popular quantitative control the Federal Reserve uses is the Discount Rate. Often speculation of whether the Reserve will cut or raise the Discount Rate can drive the markets. Analyzing the data for the Discount Rate it looks like in 1990 in anticipation of a slowing economy the Fed cut rates 50 basis points. Interesting move by the Fed that in 1991 the Fed moved aggressively during the recession dropping the rate 250 basis points. With fears of uncertainty about the recovery the fed again lowered rates in 1992. These rate cuts are common during a rescission to encourage lending and investment growth. The movement in 1991 indicates aggressive policy by Board Members. The trend in rate cutting also lowers the prime rate and the federal funds rate.
A second important quantitative control used by the Federal Reserve is Open Market Operations. The buying and selling of government securities. In the time series data for this exercise Open Market Operation where highly expansionary. The Fed continually increased purchases on the open market. The fed proceeded cautiously by increasing purchases at a decreasing rate. Sales of securities decreased into 1991 and jumped in 1992. Likely to control the lagging effects of expansionary policy preceding 1991.
3b)
The Federal Reserve has three quantitative controls. One is the Reserve Requirement. The Reserve Requirement is the amount of funds that banks must hold in reserve against deposits made by their customers. This money must be in the bank's vaults or at their Federal Reserve district bank. This ratio is set by the Board of Governors. Over this time the Fed did not nor typically does not adjust the Reserve Requirement. However in 1992 the Reserve Requirement was lowered from 12% to 10%. This action was taken due to fear of a slow recovery in the economy. When banks have a lower rate required to be held then in theory they will have more money to lend. The second quantitative control the Fed has is Open Market Operations (OPO). Open Market Operations are controlled by the Federal Open Market Committee (FOMC) who targets the money supply levels through policy directives of buying or selling government securities in the secondary market. The FOMC concern about a recession directed OPO to that of easy money. The FOMC increased purchases at a decreasing rate. I believe this action was taken to control inflation. Sales of securities remained low and in 1993 was actually zero. This was probably done because of the large growth of GDP in 1993. The Fed wanted to the economy to grow and to grow with the economy they used a highly expansionary policy. The final control the Fed uses is the Primary Credit Rate or Discount Rate. This is the rate that banks can borrow from the Fed. It is a popular tool of the Fed to encourage lending in U.S. economy. The Fed in the time series data lowered the rate to encourage lending. In 1991 the U.S. economy was in a recession, and the Fed aggressively cut the Discount Rate 250 basis points to increase the money supply. Again in 1992 cut rates to stimulate the recovery of the recession. All three quantitative controls of Federal Reserve aim to increase or decrease the supply of money and the proportion of lending. The most common tool of the Fed is OMO because of it can used without signaling the Feds intentions and be easily reversed.
3c) See attachment, next page.
It is my assessment that the Federal Reserve was successful in the policy actions of fighting the 1991 recession. The Federal Reserve was able to control employment, keep prices stable and provide a growth relatively quick. I feel it was successful because the Fed was aggressive in actions of expansionary policy. The 250 basis point cut in 1991 and 50 basis point cut in 1992 proved to be effective. The Fed was aggressive because they used all three quantitative tools in the time series data. Open Market Operations, Discount Rate and the Reserve Requirement. The effective control of inflation by balancing OPO. It is important to note the decreasing trend of the Money Multiplier that slowed the rate of respending during expansionary policy. If Fed overlooked this then the possibility of high inflation in the recovery from a recession could have resulted in higher unemployment. Business would be uncertain about future investments and not seek opportunities of growth. It was a slow recovery that didn’t show into two years later in 1993 when real GDP increased over 4%. The uncertainty in the economy included a war in Middle East, fiscal policy decisions, and demographics. Capital spending became uncertain due to uncertainty in the economy and slowed the recovery of the 1991 recession.