Quantitative Easing as a Solution for Deflation

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ECO499

Money and Banking

23/07/2010

The Feral reserve system faces many challenges in order to provide a healthy economic structure. One of those challenges is for example determining the best solution to solve a crisis that could have different degrees of seriousness. In other words, the FED struggles on how to set the targets that would best affect positively on policy goals. To illustrate this point, we can address the following issue: inflation. As inflation rises, every dollar will buy a smaller percentage of a good. For example, if the inflation rate is 2%, then a $1 pack of gum will cost $1.02 in a year. I was taught in my previous finance class that most countries' central banks would try to sustain an inflation rate of 2-3%. However if the inflation rate is greater, the FED should intervene in order to stabilize it as targeted. The problem now is how to deal with this situation since there are many way out to solve it. For example, the government can impose restrictions in the transfer of foreign currency reserves outside of the country. Another alternative, the government can do to solve the problem of inflation is to lift certain import controls. These two solutions will lead to reduce the inflation but picking the right one, does not come from an instinct, but from the decision makers. Therefore, a perfect expertise is needed to first study the market at the given time and determine what caused the rise in inflation, then decide what would be the most appropriate conclusion. According to Eduardo Smith an economist who was a consultant in the FED (Smith, 2001), in the early 1930s were a time of serious deflation and federal price supports were put into place to attempt to stop the downward spiral. The plan was to use "codes of fair competition" to steady prices for products made by different companies in similar industries. The codes didn't work well for many reasons. Organizing product lines was difficult, the disparate cost structures of the...
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