Note: This is post #122 in a weekly video series on basic economics.
If you think through all of the variables that shape a country’s economy, it’s no wonder that monetary policy is difficult, says economist Alex Tabarrok. It should also come as no surprise that the Federal Reserve doesn’t always get it right. In fact, sometimes the Fed’s actions have made the economy worse off.
Prior to the Great Recession, and in response to the recession of 2001, the Fed took steps to stimulate aggregate demand. It kept interest rates low, which meant that credit was cheap – including credit for stuff like mortgages.
Cheap credit has the potential to fuel asset bubbles. For example, in the early to mid 2000s, housing prices were increasing year over year. Both buyers and lenders became overconfident. And, while it’s easy for us to see what happened in hindsight, very few people spotted the trouble ahead.
(If you find the pace of the videos too slow, I’d recommend watching them at 1.5 to 2 times the speed. You can adjust the speed at which the video plays by clicking on “Settings” (the gear symbol) and changing “Speed” from normal to 1.25, 1.5 or 2.)
Click here to see other videos in the Introduction to Economics series.