How will the rescue bill affect the Federal Reserves monetary policy?
Whaples: The Fed’s traditional monetary policy is to control short-term interest rates by buying and selling U.S. government debt. The financial crisis has temporarily made this tool much less effective than usual. Cutting the Fed’s interest rate hasn’t had the normal effect of putting funds into the hands of borrowers. The rescue plan goes far beyond this day-to-day Fed policy. In many ways, the financial system is like a body’s circulatory system and credit is like the life-blood of an economy. The financial system carries nutrients and oxygen (investment funds) from investors to the organs of the body (businesses). Recently, the otherwise healthy U.S. economy suffered from a serious case of clogged arteries, so credit hasn’t been getting through to where it was needed, even though there was plenty of it available. These arteries were clogged because we’d been eating too much junk food — a diet too rich in sub-prime mortgages. The rescue plan ordered by Secretary Paulson and Fed Chai
