Page 527 - Introduction to Business

CHAPTER 14 Understanding the Financial System, Money, and Banking 501

fiscal policies to achieve economic goals. Fiscal policies involve government fiscal policies The use of government
spending and taxation. The severity of economic downturns can be decreased by spending and taxation to stimulate or
slow down the growth rate of the
letting the federal government play a more active role by means of fiscal policy. economy
During recessions with slow economic activity, government can increase spending
or cut taxes to put people back to work and stimulate consumer spending and
business activity. During the Great Depression, U.S. president Franklin Roosevelt
implemented fiscal spending to get the economy going again. The success of these
ideas in terms of shortening the depression led to wide popularity around the world
of the use of fiscal policy to reach economic goals that continues today.
One problem with fiscal policy is that it is difficult to implement in a timely way.
For example, assume that we are seeking to stimulate the economy during a reces-
sion. While the executive and legislative branches of the government may agree that
tax cuts are needed to stimulate the economy, political differences between mem-
bers of different political parties in the country can slow down or even disallow pas-
sage of tax-cut laws. By the time tax cuts are made, the economy may have already
begun to rebound and the tax cuts may no longer be needed. Indeed, in this case
the fiscal stimulus may require the central bank to use more restrictive monetary
policy to dull or offset the incorrectly timed fiscal effect on the economy.
Another problem is that sometimes fiscal policy is simply not politically feasi-
ble. Imagine being a political leader trying to convince voters that you want to
increase taxes or cut government programs to slow down the economy. This politi-
cal platform would surely decrease your chances of being elected by voters.
For this reason monetary policy, rather than fiscal policy, is most commonly used
to affect economic conditions. Not surprisingly, central bank decisions and speeches
of central bank officials capture the attention of the financial press almost daily.
Nonetheless, there are times when government action through fiscal policy is needed
to work alongside monetary policy to achieve desired economic goals. Particularly in
severe economic downturns, government fiscal policy can play a positive role and
complement monetary policy efforts to stimulate an economic recovery.

reality How has monetary policy affected you over the past year?
CH ECK

Financial Institutions

LEARNING OBJECTIVE 6
Compare the different types of financial institutions as well as their roles in the economy.

Financial institutions are generally private firms that seek to maximize the value of
their share prices. In serving as financial intermediaries channeling public savings
to investment, they can be classified as depository or nondepository. Depository
institutions are those financial firms that offer deposit services to the public and
therefore are important to the payments system. Nondepository institutions offer
various securities management and insurance services that are essential to a well-
functioning financial system. Exhibit 14.8 lists some of the largest financial institu-
tions in the world.
There are a number of unique aspects of financial institutions that make them
distinct from nonfinancial firms.

• Separation of finance and commerce. Most countries do not allow financial
firms to cross over into nonfinancial activities; that is, finance and commerce
are separated sectors of the economy. Banks are not allowed to manufacture

Copyright 2010 Cengage Learning, Inc. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part.