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Focusing on Asset Prices

By       Message Vijar Kohli       (Page 1 of 1 pages)     Permalink    (# of views)   1 comment

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opednews.com Headlined to H3 4/25/09

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In economic markets, the government has set policies to intervene in the market, especially in the United States. These policies are known as monetary and fiscal policies and are used to help stabilize the market. Fiscal policy comes into play when the government decides when they should adjust their spending and tax rates. Monetary policy on the other hand is when the government buys or sells bonds from banks. The monetary policy has more of a direct impact because its results occur more rapidly when compared to the fiscal policy which takes a longer time to come into play. Both of these policies are used to impact the unemployment/inflation rates of the country. My question is if the government acts to stabilize the economy via monetary efforts then what does it do for assets prices such as stocks and real estate?

When the government implements a fiscal policy (changes in tax rates or government spending), it could take months for these to come into affect. Even if this does work, the government is not sure whether it will actually fix the problem. The other problem is that the money that is spent or saved during this policy from the consumers side, may not be used as accounted for. If it is not used properly then we have to worry about the problem worsening and causing the need for more money. Monetary policy actually has a better effect on the economy because it creates liquidity or tightens it via banks buying/selling bonds. Banks are directly related to the consumer and from there effect how the consumer or customer may spend their money in other occurrences. The problem with this method is that the consumer still has a choice on what he or she would want to do with the money.

After going through both of these policies, we can see that the government commits no action in stabilizing the increases/decreases in real asset prices and we should be asking ourselves why. The current crisis was created because of the deterioration of real asset prices which caused consumers to become worrisome of the health of the economy. Because of the domino effect, hedge funds and investors began to sell their holdings because they feared losses. Now the government pledged to inject almost $1 trillion into the economy to create more liquidity for the banks. The problem with this is that investors still fear about what may occur in the economy and because of supply and demand, asset prices continue to decrease at a spiraling rate.

Now the question that comes into play is should the government be looking at stabilizing asset prices during an economic downturn or continue using their fiscal and monetary policies? There is not anything wrong with the current policies that the government continues to implement but some economists and I believe that this not the best way to recover a downward economy. We also have to be careful on how we attack this new problem because what we do not know can affect our potential output or at least how we originally planned to bring the economy back to normality.

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In deciding which policy to engage, we would first have to test whether this stabilizing policy would have better or worse effects than the current policies. Next we would have to see the reactions consumers have and whether this new strategy would have any real direct effect on the economy. Last we would have to construct a strategy on how to figure out the best way to stabilize asset prices without incorrectly evaluating them. This would be the most difficult part because economists and politicians would have to determine the right prices and somehow teach the greedy investors a lesson. These ideas are a bit conflicting because they may create mixed emotions in the economy which could worsen the current state further.

Merits such as a stabilization policy has in theory suggests that in practice, monetary policy is too blunt an instrument to be used to target asset prices the effects on real property prices are too small, given the responses of real GDP, and they are too slow, given the responses of real equity prices. In particular, there is a risk that setting monetary policy in response to asset price movements will lead to large output losses that exceed by a wide margin those that would arise from a possible bubble burst.

In the end we have to look at what monetary and fiscal policies are aiming to accomplish and is it being done. History has shown that the economy has always gotten better over time and shown growth but can the process of recovery be quickened if we attack the situation properly? Looking at the drastic changes in asset prices, maybe there is a solution that we can find which will allow us to handle these situations more appropriately. Reason being is because we all know that people feel richer and are happier if their investments are up and become depressed when they begin to decline. These are problems we have to look at because we may be only looking at part of the picture rather than looking at the entire picture. Maria Mitchell once said "That knowledge which is popular is not scientific" so maybe it is time to differentiate from the norm look to where no one has looked before.

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