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UNIT 9Monetary and Fiscal Policy (11 days)

UNIT 9 – MONETARY AND FISCAL POLICY (11 Days)All teaching resources in this document are free for teachers. Here is how to you access them:1. Many are hyperlinked in the document, so you can get started right away. 2. Lessons that do not have a hyperlink can be found on the lesson plan resource calledVirtual Economics 4.5 or 5.0 (VE). All teachers can and should get this resource for freeby participating in a VCEE training session. Visit www.vcee.org for more information.3. Lessons from Financial Fitness for Life are on VE. They also have educationaltechnology tools that can be found here:https://www.econedlink.org/resources/collection/fffl-9-12/The US federal government’s taxation and spending policies, along with the Federal ReserveSystem’s monetary policies are utilized to steady the economy, encourage economic growth andfull employment, while keeping prices stable.EPF.6 The student will demonstrate knowledge of the nation’s financial system bya) defining the role of moneyDay 1 Characteristics and functions of moneyEPF.6 The student will demonstrate knowledge of the nation’s financial system byb) explaining the role of financial markets and financial institutionsDay 1 Financial intermediaries and how they workEPF.5 The student will demonstrate knowledge of a nation’s economic goals, including fullemployment, stable prices, and economic growth, byd) describing strategies for achieving national economic goals.Day 1 What can the government do to help the economy reach full employment, stableprices and economic growth?EPF.7 The student will demonstrate knowledge of how monetary and fiscal policy influenceemployment, output and pricesb) describing government’s role in stabilizing the economyDay 1 and Day 2 What fiscal policy tools can the government use to help stabilize theeconomy?EPF.7 The student will demonstrate knowledge of how monetary and fiscal policy influenceemployment, output and prices bya) describing the purpose, structure and function of the Federal Reserve SystemDay 1 What is the role and structure of the Federal Reserve System?Day 2 Tools of monetary policyDay 3 The role of interest ratesEPF.7 The student will demonstrate knowledge of how monetary and fiscal policy influenceemployment, output and prices by1Virginia Council on Economic Education

d) explaining balanced budget, deficit and national debtDay 1 Government budgets and their effect on the economyEPF.7 The student will demonstrate knowledge of how monetary and fiscal policy influenceemployment, output and prices byc) describing sources of government revenueDay 1 Sources of national, state, and local revenueEvaluation DayVirginia Council on Economic Education

EPF.6 The student will demonstrate knowledge of the nation’s financial system bya) defining the role of moneyDay 1 - Characteristics and Functions of MoneyContent KnowledgeWe all have unlimited wants. We try to satisfy those unlimited wants and needs by consuminggoods and services. Money makes trade for those goods and services easier. Whether it is anAmerican dollar, a gold coin, or a wampum shell – money has three basic functions. As amedium of exchange, money makes it easier for us to trade for the goods and services that wewant. As a measure of value, it is used to compare the market value of different goods andservices. And, as a store of value, money makes it easier to save and invest.In order to be considered “money,” a dollar or a coin or a shell must be accepted by a seller aspayment for goods or services. Something serving as money is more useful if it has the followingcharacteristics: durability; portability; divisibility; uniformity; limited supply; and acceptability.Paper money that is issued without the backing of gold or any other precious metals isconsidered fiat money. The U.S. dollar is considered fiat money; it is a piece of paper that isbacked by the full faith and credit of the U.S. government. It’s value is determined by the solefact that a seller will accept it in exchange for goods and services. A seller will accept that pieceof paper because the seller knows that others will accept it in payment for goods or services.VocabularyCharacteristics of Money:Durability – Money that lasts over time is more functional than money that deteriorates.Portability – Money is more useful if it can be easily transportable over distances.Divisibility – Money is more useful if it can be easily divided into smaller units.Uniformity – Each unit of money must be the same as the next unit.Limited supply – Whatever is used as money needs to be scarce enough to be valued bybuyers and sellers.Acceptability – Money must be acceptable as payment in exchange for goods orservices.Commodity money – Any good that has value and can be traded becomes commodity moneywhen it is used as a medium of exchange. Salt, shells, furs, and tobacco have all been used ascommodity money.Fiat money – A monetary system where the currency is not based on a commodity but instead isdeclared by law to be acceptable as money.Money Supply – The basic money supply in the United States is made up of currency, coins, andchecking account deposits.Virginia Board of Education Framework3Virginia Council on Economic Education

Money makes it easier to trade, borrow, save, invest, and compare the value of goods andservicesMoney is anything widely accepted as final payment for goods and services.Money has six characteristics: durability, portability, divisibility, uniformity, limited supply, andacceptability.Money acts as a medium of exchange, making trade easier.Money encourages specialization by decreasing the costs for exchange.Money acts as a store of value, making it easier to save and invest.Money acts as a measure of value, making it easier to compare the value of goods and services.Commodity money (e.g., gold coin) has value in itself, while fiat money (e.g., U.S. dollar) hasvalue because the government has declared that it is acceptable for paying debts.The basic money supply in the United States is made up of currency, coins, and checking accountdeposits.Teaching Tips1) Demonstrate their understanding of money as a “store of value” in responding to thefollowing: A wheat farmer wants to save for her five-year old daughter’s college education.Why is she better off selling her wheat for money and saving the money than she would be ifshe saved wheat to exchange for her daughter’s college tuition? Then have students explainhow money is a “measure of value” using the following example: Explain the advantages ofbeing able to use money to compare prices of a gallon of milk in three different stores asopposed to when prices are expressed as one gallon of milk equals 10 pencils, or 6 apples, orhalf of a pound of roast beef.22) Explain why deposits in checking accounts are considered money but assets such as stocksand bonds are not. (Because checks are accepted in exchange for goods and services, butstocks and bonds have to be sold –converted into money—to be readily accepted in exchangefor goods and services.) Also explain why a credit card should not be considered money(credit cards represent loans).23) Using a decision grid evaluate the following items based on the six characteristics of money:salt, large stone wheels, cattle, fur, and pieces of paper printed by the government. Have yourstudents choose the item that they think would work best as money.4) You can’t eat money or wear money. It is important for the roles it plays. As a medium ofexchange, it makes trade easier. Conduct a barter activity to show that with bartering thereVirginia Council on Economic Education

must be a “double coincidence of wants.” That is, Bob must find someone who has what hewants and who wants what Bob has. Trading with money solves this problem.Lessons and ResourcesAdvanced Placement Economics: Teacher Resource Manual Macroeconomics Unit 4: Lesson 1:MoneyFocus: Economics Grades 3 – 5 Lesson 10: What Makes Money Acceptable?EconEdLink.org – Money is as Money Doeshttps://www.econedlink.org/resources/money-is-what-money-does/EconEdLink.org – What is Money? Why Does It Have Value?https://www.econedlink.org/resources/what-is-money-why-does-it-have-value/St.Louis Fed online unit Money Circle.https://www.stlouisfed.org/education/classroom-econnections-from-the-fed/episode-2-resources-for-teaching-money-and-banking-in-high-school-classroomsMusic“Can’t Buy Me Love” The Beatles“Money” Pink Floyd“Money, Money, Money” AbbaVideo“Barter” or “This for That” Schoolhouse Rock http://www.youtube.com/watch?v=J7hNOt2Y0J8Stalag 17 – DVD (Chapter 5, Six minutes)5Virginia Council on Economic Education

EPF.6 The student will demonstrate knowledge of the nation’s financial system byb) explaining the role of financial markets and financial institutionsDay 1 – Financial intermediaries and how they workContent KnowledgeA financial intermediary is a “middleman” that brings together savers who have surplus moneyto lend and borrowers who have a need for that money. Banks, credit unions and savings andloan associations all act as financial intermediaries.Many students (and adults) tend to think of banks and credit unions as warehouses for money.They may think that financial intermediaries such as banks simply store the money deposited bysavers. Actually, banks are businesses and they make money on the difference between theinterest paid to depositors and the interest charged to borrowers. Thus they try to lend most oftheir deposits. Only a small percentage of a bank’s deposits are in the bank at any time.VocabularyBank – A financial institution that provides various products and services to its customers,including checking and savings accounts, loans and currency exchange.Credit union – A nonprofit financial institution owned by its members; offers various financialservices including accounts and loansIntermediaries – Firms that stand between savers and borrowers, serving to collect excess funds(savings) and convert them to loans.Virginia Board of Education FrameworkFinancial markets bring together people who have money to lend and are willing to take risks toearn a return with people who want to borrow for a specific purpose.Financial institutions act as intermediaries by facilitating the interaction of borrowers and saversin financial markets.In a market economy, scarce goods and services are allocated through the influence of prices onproduction and consumption decisions.A financial institution is an organization that provides financial products and services toconsumers.Financial institutions provide products like checking and other accounts that help consumersmanage money. They provide services and advice to help consumers meet their financial goals.Financial institutions can provide a safe place for individuals to hold money, and they helpchannel money from savers to borrowers.Virginia Council on Economic Education

Banks, credit unions, and insurance companies are examples of financial institutions.Financial institutions attract funds from savers by offering interest rates on savings. Financialinstitutions use depositors’ savings to earn income by lending to borrowers or investing in otherfinancial products.Financial institutions are able to pool the savings of many individuals in order to make loans toborrowers.Banks create money by lending.Government protects consumers in financial markets through regulation and enforcement byagencies such as the Securities and Exchange Commission and the Federal Reserve System.Teaching Tips1) Ask students why banks exist. Brainstorm the challenges that would arise in life without abanking system. (paying bills with cash, no ATMs, keeping money safe, where to get a loan togo to college, buy a home, start a business). A well functioning banking system is crucial intoday’s complex economy.2) Banks are businesses. They channel money from savers to borrowers and make money fromthe difference in interest they earn on loans and the interest they pay on savings deposits.Today banks also provide other services on which they earn fees.3) Without banks, it would be more difficult for borrowers to find lenders. To make this point,consider using an activity such as those from the Learning, Earning and Investing, Focus:Institutions and Markets, or Once Upon a Dime lessons below, in which students act as peoplewith money to lend and those desiring to borrow.4) When banks make loans, the money supply increases; when loans are paid off, the moneysupply decreases. Have students demonstrate how successive deposits and loans made bycommercial banks, resulting from one new deposit in the banking system, cause the moneysupply to expand and how repayment of loans causes the money supply to contract.2The APEconomics and Capstone lessons below provide activities to demonstrate how bank loansaffect the money supply. Banks “create” money by lending.Lessons and ResourcesAdvanced Placement Economics: Macroeconomics. Unit 4, Lesson 2. Banks and the Creation ofMoney.7Virginia Council on Economic Education

Capstone: Exemplary Lessons for High School Economics. Unit 6, Lesson 34. Money andMonetary Policy.Financial Fitness for Life Grades 6 – 8 Theme 4: Lesson 11: Let Lenders and Borrowers BeLearning, Earning, and Investing High School Lesson 11: Financial Institutions in the U.S.EconomyFocus: Institutions and Markets Lesson 4: Financial SystemsEconedlink Lesson. Banks and Credit Unions.https://www.econedlink.org/resources/banks-credit-unions-part-i/Once Upon a Dime Video and comic book that explains how financial institutions act asintermediaries between savers and borrowers. Lesson planshttps://www.newyorkfed.org/outreach-and-education/comic-booksVirginia Council on Economic Education

EPF.5 The student will demonstrate knowledge of a nation’s economic goals, includingfull employment, stable prices, and economic growth, byd) describing strategies for achieving national economic goals.Day 1 – What can the government do to help the economy reach fullemployment, stable prices and economic growth?Content KnowledgeStudents need to understand that the government has an important role to play in the economy.The economic goals that the federal government tries to reach include full employment, stablegrowth, and stable prices. Government can pursue policies aimed at reaching the goal of a strong,stable economy. It has various tools at its disposal, each with strengths and limitations. Thesetools are referred to as “fiscal policy.”Fiscal policy refers to how government taxing and spending policy can be used to influence theeconomy. In addition to changing tax policies and making deliberate changes in spending tostimulate or slow the economy, the government can undertake other policies to improve thehealth of the economy.VocabularyFiscal policy – Government policy to influence overall levels of employment, stability, andprices using taxing and spending.Virginia Board of Education FrameworkMarket economies tend to grow because there are incentives which encourage people to work,entrepreneurs to bring innovations to market, and businesses to expand, pursuing increasedprofits.When growth is slow and unemployment high, government can• implement policies such as investment tax credits to encourage businesses to expand andhire more people• implement job training programs to help the unemployed• use fiscal policy (e.g., changes in federal taxes and spending) to help the economy towardfull employment, stable prices, and stable growth.Ongoing governmental economic support includes• working to assure the health of the nation’s financial institutions through regulation andenforcement• supporting unemployment insurance, which helps stabilize the economy in times of slowgrowth• encouraging invention, innovation, and growth through patent and copyright laws9Virginia Council on Economic Education

• promoting pure research (e.g., Human Genome Project) through grants and programssuch as NIH (National Institutes of Health).Teaching Tips1) Recall the business cycle which shows how the economy typically goes through stages ofexpansion, peak, contraction, and trough. Peaks generally have the problem of inflationand troughs the problem of unemployment. Remind students of the problems inflation andunemployment bring From Unit 8 (EPF5a), have students review these economicindicators: GDP, CPI, and Unemployment Rate and how to recognize a healthy economy.2) Ask students why government would have any role in stabilizing the economy. Explain thatsince the 1946 Full Employment Act the federal government has assumed the responsibilityfor doing what it can to stabilize the economy. (This act was passed because after WWIIcongress was worried that there might be massive unemployment when the soldiers camehome.) Congress can use fiscal policy, change spending and taxing to increase or decreaseaggregate (total) demand to stimulate growth or slow it down. This will be explored in thenext lesson. Here, explore other government activities the government undertakes toencourage economic growth and full employment--things such as job training, basicresearch and infrastructure. Discuss the purpose/value of these expenditures. Discussquestions such as the following:● What can government do to create an environment that encourages entrepreneurshipsince new companies hire people? (Small Business Administration—expertise andgrants; eliminate unnecessary paperwork and regulations; protect patents andcopyrights)● What can government do to reduce structural unemployment? (Provide re-training.Provide incentives for firms to hire and re-train)3) Discuss how the programs of the New Deal were designed to stimulate the economythrough government spending and government programs that employed people directly.The St. Louis Fed has a lesson that would be a good fit here: Lesson 4 Dealing with theGreat Depression.Lessons and ResourcesFocus: Understanding Economics in Civics and Government Lesson 5: Government SpendingFocus: High School Economics Lesson 18: Economic Ups and DownsFocus: Understanding Economics in Civics and Government Lesson 5: Government SpendingFocus: High School Economics Lesson 18: Economic Ups and DownsEconEdLink.org – Government Spending: Why Do We Spend the Way We Do?https://www.econedlink.org/resources/government-spending-why-do-we-spend-the-way-we-do/Virginia Council on Economic Education

Federal Reserve Bank of St. Louis--Dealing with the Great Depression--Lesson 4http://www.econedreviews.org/lesson.php?id=1218Making Sense with Paul Solman: Returning Vets Face a New Battle: The Job Market--https://www.econedlink.org/resources/making-sene-with-paul-solman-returning-vets-face-a-new-battle-the-job-market/Making Sense with Paul Solman: So You Have a Liberal Arts Degree and Want a Job?--https://www.econedlink.org/resources/making-sene-with-paul-solman-so-you-have-a-liberal-arts-degree-and-want-a-job/Making Sense with Paul Solman: For Some, Finding Work Proves Extra Difficulthttps://www.econedlink.org/resources/making-sene-with-paul-solman-for-some-finding-work-proves-extra-difficult/11Virginia Council on Economic Education

Day 1 and Day 2 – What fiscal policy tools can the government useto help stabilize the economy?Content KnowledgeFiscal policies are decisions to change spending and taxation levels by the federal government.As fiscal policies, these decisions are adopted to influence national levels of output, employment,and prices.In the short run, increasing federal spending and/or reducing taxes can promote moreemployment and output, but these policies can also put upward pressure on the price level andinterest rates. Decreased federal spending and/or increased taxes tend to lower price levels andinterest rates, but they reduce employment and output levels in the short run.Policy makers and the general public continue to examine and debate the overall stabilizationeffects of public policy actions (such as stimulus packages), because the consequences are soimportant. Citizens should understand the role of conflicting objectives and the limitations on theeffectiveness of economic stabilization policies in order to develop realistic expectations aboutwhat can be accomplished with taxation, spending, and monetary policies (addressed in thesection about the Federal Reserve System).2VocabularyFiscal policy – Government policy to influence overall levels of employment, stability, andprices using taxing and spending.Virginia Board of Education FrameworkFederal government fiscal policies influence the overall levels of employment, output, andprices. Fiscal policy decisions are decisions to change the level of spending and tax levels by thefederal government. These decisions are adopted to influence national levels of output,employment, and prices.Under conditions of slow growth or high unemployment, expansionary fiscal policy couldstimulate the economy. In the short run, increasing federal spending and/or reducing taxes canpromote more employment and output, but these policies eventually put upward pressure on theprice level and interest rates.Under inflationary conditions, the government may choose contractionary fiscalpolicy to slow the economy. Decreased federal spending and/or increased taxesVirginia Council on Economic Education

tend to lower price levels and interest rates, but they reduce employment andoutput levels in the short run.Teaching Tips1) Introduce the fiscal policy tools and how they would be used to fight unemployment orinflation. Discuss these questions with students: When would the government be likely topursue expansionary fiscal policy? How would the fiscal policy tools be used in this case?2) Have students look up current economic indicators. If the economy is struggling, what fiscalpolicies would students recommend?3) Ask students if they’ve heard anything in the news about a government economic stimulus.Ask what they think it means. When the economy is growing too slowly and unemploymentis high, congress may try to stimulate the economy by increasing spending and/or decreasingtaxes. This would be called a fiscal stimulus. If the economy is beset by inflation, congressmay try to slow it down by raising taxes and cutting government spending. These actionsrepresent fiscal policy.4) This hands-on lesson is especially effective in showing how fiscal policy works: Economics inAction: 14 Greatest Hits for Teaching High School Economics Lesson 12: Fiscal Policy: ATwo Act Play5) Help students understand that both fiscal and monetary policy work by influencingdemand---either bringing about an increase or a decrease in aggregate (total) demand. Anexcellent lesson for this is on EconEdlink--Fiscal and Monetary Policy.https://www.econedlink.org/resources/fiscal-and-monetary-policy-process-and-interactive-quiz/6) Politicians throughout history have not always agreed on how/when fiscal policy should beimplemented. Show Paul Solman’s video clip on the PBS Newshour and discuss how taxesaffect the economy. Point out that lower tax rates may lead to an increase in the federal budgetdeficit. Does raising taxes really slow the economy or vice versa? What does the data show?Lessons and ResourcesEconomics in Action: 14 Greatest Hits for Teaching High School Economics Lesson 12: FiscalPolicy: A Two Act PlayTeaching Financial Crises Lesson 8: Understanding Financial Markets, 2007-2009Capstone: Exemplary Lessons for High School Economics Unit 6: Lesson 37: Can GovernmentManage the National Economy?EconEdLink.org – The Role of the Government: The Federal Government and Fiscal Policy13Virginia Council on Economic Education

https://www.econedlink.org/resources/the-role-of-government-the-federal-government-and-fiscal-policy/Day 1 – What is the role and structure of the Federal ReserveSystem?Content KnowledgeThe Fed is in the daily news, but its purpose and activities are a mystery to many. The Fedperforms vital roles in the US economy and its actions will affect students now and in the future,so it will be helpful for them to understand its mission and activities. Since many students will beborrowing money for cars or to go to college they will care about interest rates. In this unit theywill learn how and why the Fed may influence interest rates.Like most industrialized nations, the United States has a central bank to meet certain needs of itscomplex economy and financial system. Unlike most central banks, however, the U.S. FederalReserve System—often called the Fed—is, in a sense, a “decentralized” central bank. It consistsof a Board of Governors in Washington, D.C., 12 regional Federal Reserve Banks and theirbranches, and the Federal Open Market Committee.Established in December 1913 by the Federal Reserve Act, the Federal Reserve System wasdesigned to address the conditions underlying the money panics that had plagued the country formany years. The act has been amended several times to enhance the Fed's ability to foster asound financial system and a healthy economy.The Federal Reserve System advances this goal in several ways. Its monetary policy decisionsaffect the flow of money and credit in the economy. It contributes to the safety and soundness ofthe nation's financial system by establishing regulations and acting as a commercial banksupervisor. And, by serving as a bank for depository institutions and the federal government, theFed helps ensure that the system of paying for all kinds of transactions works efficiently. Incarrying out these three functions, the Fed also helps to stabilize the financial system and tocontain systemic risk that may arise in financial markets.(From: Federal Reserve Structures and Functionshttps://www.frbatlanta.org/about/publications/fed-structure-and-functionsVirginia Council on Economic Education

VocabularyMonetary policy – Changes in the supply of money and the availability of credit initiated by anation's central bank to promote price stability, full employment and reasonable rates ofeconomic growth.Virginia Board of Education FrameworkThe Federal Reserve System, often called the Fed, is the central banking system of the UnitedStates.The goal of the Federal Reserve System is to help the economy achieve stable prices, fullemployment, and economic growth.The structure of the Federal Reserve System helps to ensure that regional information isrepresented in national policy decisions and that the Fed remains accountable to the people.The Federal Reserve System’s responsibilities include conducting monetary policy; supervisingand regulating financial institutions; and providing services to depository institutions, the federalgovernment, and the public.Twelve regional Federal Reserve Banks and their branch offices carry out the day-to-dayresponsibilities of the Federal Reserve System.The Board of Governors of the Federal Reserve System, whose members are appointed by thePresident of the United States and confirmed by the U.S. Senate, provides leadership for theFederal Reserve System.The Federal Open Market Committee (FOMC) is responsible for making monetary policydecisions. The FOMC is composed of members of the Board of Governors and presidents of thetwelve Federal Reserve Banks.The Federal Reserve System supervises and regulates banks to promote the safety and soundnessof the banking system, to foster stability in financial markets, and to ensure compliance withapplicable laws and regulations.The Federal Reserve System provides other services including supplying paper money and cointo banks, processing checks and electronic payments, and protecting consumers throughregulation and education.Teaching Tips1) The teacher should spend some time pointing out that there were two attempts at setting upcentral banks in the United States that failed. One was dominated and controlled by thebanking industry. The other was dominated and controlled by the government. Both of themfailed within 20 years. The Federal Reserve has a controversial and unique structure that15Virginia Council on Economic Education

allows for “independence within government.” This means that, to a large extent, themembers of the Board of Governors, once appointed by and approved by government, have acertain amount of political insulation that allows them to make decisions without unduepolitical pressure from any branch of government or political party. At the same time, thePresidents of the regional Federal Reserve Banks provide more diversified input than can befound in a strictly governmental structure. Additionally, the Federal Reserve Banks providethe funds that run the System, keeping it independent of the financial strings that come withbudget control by government.2) Below there are several excellent lessons and videos on the structure of the Fed.Lessons and ResourcesFocus: Understanding Economics in U.S. History Lesson 28: Money Panics and theEstablishment of the Federal Reserve SystemLearning, Earning, and Investing: High School Lesson 21: Lessons from History: Stock MarketCrashesEconEdLink.org – Who is Ben Bernanke?http://www.econedlink.org/lessons/index.php?lid=700&type=educatorIn Plain English: Making Sense of the Federal ReserveVideo, lesson plans https://www.stlouisfed.org/in-plain-englishLesson Plan: Balance of Power – The Political Fight for An Independent Bankhttps://www.kansascityfed.org/education/resources/balance%20of%20power%20teaching%20guideKansas City Fed online unit Money Circle: Theme Four: Money Flowhttps://www.kansascityfed.org/education/moneycircleDay 2 – Tools of Monetary PolicyContent KnowledgeWhy is the Fed pushing interest rates up just when I want to buy a house? Why are they pushinginterest rates down just when I’m ready to retire and need to earn some interest income? It’s notpersonal; they are looking at the big picture--sometimes called the macro economy. The Fed’sjob is to work for the health and stability of the overall economy, safety of the banking systemVirginia Council on Economic Education

and the soundness of the US currency. Understanding how and why the Fed acts will helpstudents make sense of news reports about the Fed. It may also help one better decide the besttiming of certain personal financial decisions.Monetary policies are decisions by the Federal Reserve System that lead to changes in the supplyof money, short term interest rates, and the availability of credit. Changes in the growth rate ofthe money supply can influence overall levels of spending, employment, and prices in theeconomy by inducing changes in the levels of personal and business investment spending.2The Federal Reserve System’s major monetary policy tool is open market purchases or sales ofgovernment securities, which affects the money supply and short-term interest rates. Other policytools used by the Federal Reserve System include making loans to banks (and charging a rate ofinterest called the discount rate). In emergency situations, the Federal Reserve may make loansto other institutions. The Federal Reserve can also influence monetary conditions by changingdepository institutions’ reserve requirements.2A central bank has three tools to influence the money supply and interest rates, all of whichoperate through the banking system. The first and most commonly used tool is open marketoperations, which involves buying and selling government bonds. When the central bank buysbonds, it increases the amount of money in the economy; when the central bank sells bonds, itreduces the amount of money in the economy. In conducting open market operations, the FederalReserve tries to influence the federal funds rate, which is the interest rate a bank charges when itlends excess reserves to another bank. A second tool is the reserve requirement, which is thepercentage of deposits that banks are required to hold and not lend out. A higher reserverequirement reduces the money supply by limiting bank lending; a lower reserve requirementincreases the money supply by increasing bank lending. The third tool is the discount rate,which will be addressed on Day 3.3VocabularyMonetary policy – Changes in the supply of money and the availability of credit initiated by anation's central bank to promote price stability, full employment and reasonable rates ofeconomic growth.Open-market operations – The buying and selling of government bonds by the Federal Reserveto control bank reserves and the money supply.Reserve requirement – The fraction of banks' deposits that they are required by law to keep onhand or with the Federal Reserve.Discount rate – The interest rate the Federal Reserve charges commercial banks for loans.Virginia Board of Education FrameworkMonetary policy can lead to changes in the supply of money and the availability of credit.Changes in the money supply can influence overall levels of spending, employment, and pricesin the economy.The major monetary policy tool of the Federal Reserve System is open market operations(purchases and sales of government securities). Other policy tools include increasing or17Virginia Council on Economic Education

decreasing the discount rate charged on loans it makes to banks (and other depositoryinstitutions) and raising or lowering reserve requirements for those same financial institutions.Monetary policy decisions by the Federal Reserve System lead to changes in the supply ofmoney and the availability of credit. Changes in the money supply can influence overall levels ofspending, employment, and prices in the economy.Teaching Tips1) Remind students of the costs of inflation and unemployment. Explain that the individual canmake choices to protect him/herself from inflation and unemployment--but can’t do anythingto fix them for society. Some would say that congress and the Fed should do nothing and justwait for economic conditions to get better. However, if the Fed could use it’s tools to keepinflation down and employment growing that would help society. Introduce the three tools ofthe Fed--explaining how each would be used to combat unemployment and slow growth orinflation. Explain that both monetary and fiscal policy actions work by bringing about anincrease or decrease in aggregate (total demand). Aggregate demand includes consumer,investment and government spending and net exports (exports-imports).Playing the roles ofmembers of the Federal Open Market Committee, decide for each of the headlines belowwhether an expansionary policy or a contractionary policy would be more appropriate andhow each of the tools might be used. Newspaper headlines: Unemployment Rate Soars; NewHousing Starts Rise; CPI Rises At Faster Pace for Third Consecutive Month.22) Karl Ochi, economics teacher at Washington High School in San Francisco, uses this "rope ofmonetary policy" analogy to explain how monetary policy works: A sturdy rope is tiedaround the waist of a student volunteer. The teacher holds the other end of the rope. A wallin front of the student is marked with the sign "Y/Full-Employment Output/Capacity." Thestudent is instructed to move, with steady pressure, toward the sign on the wall. At first, theteacher should hold the rope tightly, preventing the student from reaching the target. Thenthe teacher should let the rope loose and the student will fall forward, bumping into thetarget; the excess rope falls to the floor. In this example, the rope represents the moneysupply, the student represents GDP or output, the sign represents capacity (cannot beexceeded by much in the short run) and the teacher represents the Federal Reserve. This is adirect visual depiction of tight and loose monetary policy. Then the teacher should secretlytell the student to move forward and backward erratically to show that monetary policy mustbe dynamic to adjust to changing economic conditions. The students are challenged todetermine the conditions under which tight and loose monetary policy would be appropriateas well as the pitfalls of incorrectly timed policy or of too drastic a policy action.33) Below are several excellent lessons demonstrating the tools of the Fed as well as therelationship of the money supply and inflation.Lessons and ResourcesVirginia Council on Economic Education

Capstone: Exemplary Lessons for High School Economics Unit 6: Lesson 34: Money andMonetary PolicyEconomics in Action: 14 Greatest Hits for Teaching High School Economics Lesson 11: Moneyand InflationThe Great Depression Lesson 6: Could It Happen Again?https://www.stlouisfed.org/education/great-depression-curriculum-unitThe Trial of Monty Terry – Reader’s Theater and lesson planhttps://www.frbatlanta.org/education/classroom-economist/trial-of-monty-terry.aspxEconEdLink.org – It’s a Not So Wonderful Lifehttps://www.econedlink.org/resources/its-a-not-so-wonderful-life/St.Louis Fed online unit Money Circle: Theme Four: Money Fundamentalshttp://www.federalreserveeducation.org/resources/MoneyCircle/Day 3 – The role of interest ratesContent KnowledgeThe Federal Reserve System’s major monetary policy tool is open market purchases or sales ofgovernment securities, which affects the money supply and short-term interest rates. Other policytools used by the Federal Reserve System include making loans to banks (and charging a rate ofinterest called the discount rate). In emergency situations, the Federal Reserve may make loansto other institutions. The Federal Reserve can also influence monetary conditions by changingdepository institutions’ reserve requirements.2The Federal Reserve targets the level of the federal funds rate, a short-term rate that bankscharge one another for the use of excess funds. This target is largely reached by buying andselling existing government securities.2In turn, the fed funds rate influences other rates since ithelps determine banks' minimum cost of getting funds. Thus when the federal funds rateincreases banks will probably raise the interest rates they charge, rates such as the prime rate, andthing such as rates on mortgages and car loans.The Federal Reserve tends to increase interest rate targets when it feels the economy is growingtoo rapidly and/or the inflation rate is accelerating. It tends to lower rate targets when it wants tostimulate the short-term growth of the economy.219Virginia Council on Economic Education

Along with open market operations and changing the reserve requirement, a third tool that theFed uses to influence the money supply and interest rates is the discount rate. The discount rateis the rate charged by the central bank if individual banks wish to borrow funds. A higherdiscount rate reduces the money supply while a lower discount rate increases the money supply.In times of financial crisis, the Federal Reserve may exercise emergency powers to stabilizefinancial markets or to oversee the winding-down of troubled financial institutions.VocabularyMonetary policy – Changes in the supply of money and the availability of credit initiated by anation's central bank to promote price stability, full employment and reasonable rates ofeconomic growth.Discount rate – The interest rate the Federal Reserve charges commercial banks for loans.Fed Funds rate - The interest rate that banks charge each other when loaning bank reservesthrough the federal funds market. This is a key interest rate in the economy because it helps todetermine banks' minimum cost of getting funds. If the federal funds rate is higher, then banksare likely to raise the interest rates they charge, like the prime rate, home mortgage rate, or rateon car loans. (From AmosWeb)Prime rate - The interest rate banks charge their best, most credit-worthy customers. This is oneof the key interest rates in the economy, and it is watched closely by financial types, governmentpolicy makers, and businesses. It's also an interest rate that should be watched closely byconsumers who have loans with adjustable rates, like credit cards, that are "pegged" to the primerate. Any movement in the prime rate triggers an automatic change in these adjustable rates.(From AmosWeb)Virginia Board of Education FrameworkMonetary policy affects interest rates in the economy. Interest rates act as incentives thatinfluence people’s spending and saving decisions.To fight inflationary pressure, the Federal Reserve System could implement monetary policy thatcauses higher interest rates in the economy. Higher interest rates would discourage personal andbusiness borrowing and spending and relieve inflationary pressure.Teaching Tips1) Ask students what they know about interest rates. Perhaps they know about interest rates oncredit cards or car loans. Explain there are many types of rates. The prime rate is the ratebanks charge their best customers. It is set by big banks. The Fed has a rate it chargesmember banks--that is called the discount rate. If the Fed wants to slow the economy it raisesthis rate and vice versa. When it raises the rate, it acts as a signal to banks to tighten credit,which will slow the economy. When it lowers the rate, it signals banks to ease credit. Thediscount rate is one of the Fed’s monetary policy tools, along with the reserve requirementand open market operations. Open market operations is the tool the Fed uses most. Studentswill explain how a change in the target rate of interest may act as an incentive to banks,savers and lenders to change their behavior.Virginia Council on Economic Education

2) An interest rate that is frequently in the news is the Fed Funds Rate. This is the rate bankscharge each other for overnight loans. Ask why a bank might need an overnight loan. (Banksare required to hold a percentage of their deposits on reserve at the Fed--based on the Fed’sReserve Requirement. If their reserves fall below those levels, they can borrow from the Fedto make up the difference or they can borrow from a bank that has more reserves than itneeds. ) When the Fed is pursuing an “easy money” policy--where credit is easier to get--ittakes actions to bring down the Fed Funds Rate. When the Fed is pursuing a “tight money”policy--where credit is harder to get--it takes actions to increase the Fed Funds Rate.3) To explain the effect of the supply of money on interest rates, use a supply and demand graphwith the vertical (Price) axis as the price of money (the interest rate – what we have to pay toborrow money) and the horizontal axis Quantity of Money. Draw a supply curve sloping upand to the right. By increasing the supply of money (shifting the supply curve to the right),note the effect on the interest rate: it declines. When the supply of money decreases (shiftsto the left), the interest rate increases. Explain that the Fed targets the interest rate(specifically, the federal funds rate) by increasing or decreasing the supply of money throughits open market operations – it does not set the interest rate.4) To help students understand the importance of credit in the economy, show the PBS PaulSolman video clip “Small Businesses Battle the Credit Crunch” to see how businesses arehurt when credit is tight. http://www.econedreviews.org/lesson.php?id=13805) Ask students to explain how a change in the target rate of interest may act as an incentive tobanks, savers and lenders to change their behavior. Begin by reminding students that banksmust keep reserves at a certain level or the bank can be closed. Most banks have sufficientreserves or have a surplus of reserves when they file a report. Only a relative few will need toborrow. Those will borrow at the prevailing Fed Funds rate and they will continue until thenext time they have to report. But if the Federal Reserve chooses to change the target rate forFed Funds, the situation will change.6) If the Federal Reserve raises the target for Fed Funds, banks that need reserves are forced topay a higher rate of interest. To meet this additional expense, they can do two things. First,they can raise the rate of interest they pay on deposits. This will attract more deposits fromcustomers and maybe even some new customers who are seeking better returns on savings.While this adds to their expense, it also adds to their deposits and may eliminate the need toborrow reserves. Second, they can increase the rate of interest on loans. This will decreasethe number of loans made because the higher rate will keep some people from borrowing.This will bring in additional revenues to cover the additional expense. Either way, interestrates rise.7) Write an article for the business section of the local newspaper explaining how changes inmonetary policy affect the money supply, interest rates, and the path of economic activity intheir community.221Virginia Council on Economic Education

Lessons and ResourcesFocus: High School Economics Lesson 19: Money, Interest, and Monetary PolicyTeaching Financial Crises Lesson 5: Monetary Policy in the Recent Financial CrisisAdvanced Placement Economics: Teacher Resource Manual Macroeconomics Unit 4: Lesson 6:Interest Rates and Monetary Policy in the Short Run and the Long RunEconEdLink.org – Fiscal and Monetary Policyhttps://www.econedlink.org/resources/fiscal-and-monetary-policy-process-and-interactive-quiz/EconEdLink.org – The Federal Reserve Overview Lessonhttps://www.econedlink.org/resources/the-federal-reserve-system-overview-lesson/Open and Operating: The Federal Reserve Responds to September 11 – lessons and videohttp://www.frbsf.org/education/teachers/open/Making Sen$e with Paul Solman: Small Businesses Battle the Credit Crunchto see how businesses are hurt when credit is tight because banks are not lending.https://www.econedlink.org/resources/making-sene-with-paul-solman-small-businesses-battle-the-credit-crunch/VideoMaking Sense with Paul Solman: Problem of Transparency Nothing New to the Fedhttps://econedlink.org/resources/making-sene-with-paul-solman-problem-of-transparency-nothing-new-to-the-fed/?view=projectorVirginia Council on Economic Education

Day 1 – Government budgets and their effect on the economyContent KnowledgeWhat is the difference between the budget deficit and the National Debt? Is there ever a timewhen it would be appropriate for the federal government to run a deficit (borrow money to covercurrent expenses)?In any given year, the government collects tax revenues and makes expenditures. If taxescollected exceed government expenditures in a given year, the government has a budget surplus.If taxes collected are exactly equal to expenditures in a given year, the government has abalanced budget. If taxes collected are less than the money spent in a given year, the governmenthas a budget deficit. When a budget deficit occurs, the government borrows the money that itneeds to finance its expenditures. For example, the U.S. government borrows by issuing Treasurybonds.3Public debt refers to the total accumulation of all the annual government deficits and/or surplusesfrom years past. For example, imagine that at some point in time, the government has nooutstanding debt. Then, in the next three years, it has a budget deficit of $100 in the first year, abudget surplus of $50 in the second year and a budget deficit of $80 in the third year. Totalpublic debt would be $130, which is the sum of the yearly deficits and surpluses. Public debt issometimes called government debt held by the public or just government debt.3VocabularyBudget deficit – Refers to national budgets; occurs when government spending is greater thangovernment income in a given year. A yearly deficit adds to the public debt.Budget surplus – Refers to national budgets; occurs when government income is greater thangovernment spending in a given year.National debt – The total amount owed by the national government to those from whom it hasborrowed to finance the accumulated difference between annual budget deficits and annualbudget surpluses; also called public debt.Virginia Board of Education FrameworkWhen federal government revenues and expenditures are equal, the budget is balanced.The federal budget is in deficit when the government’s expenditures exceed its revenues.The federal budget is in surplus when the government’s revenues exceed its expenditures.23Virginia Council on Economic Education

When the budget is in deficit, the government must borrow by selling securities to individuals,corporations, financial institutions, and/or other governments to finance that deficit.The national debt is the total amount of money the federal government owes. This is the sum ofall its past annual deficits and surpluses. The government pays interest on the money it borrowsto finance the national debt. The money spent on this debt service (interest) is not available topay for other government priorities.The federal government’s annual budget is balanced when its revenues from taxes and user feesequal its expenditures.A budget deficit results when spending exceeds revenues.The national debt is the sum of what the federal government owes.Teaching Tips1) Predict the costs that would be imposed on the public if federal taxes were increased tobalance the budget when the economy is in recession, and explain how political goalsconflict with economic goals.22) Budget Puzzle Simulation: You Fix the BudgetThis is an excellent group exercise. Put the students in groups of four or five. Then have eachgroup go through the various “choices” presented. They should be trying to solve theproblem, but they should also be aware of the trade-offs involved in each option. After thestudents have had time to work through the simulation, ask each group to report out. How didthey do? What were they able to do? What was the most difficult choice they had to make?http://www.nytimes.com/interactive/2010/11/13/weekinreview/deficits-graphic.html3) Who holds the US debt? Ask your students to whom they think the federal debt is owed.Sometimes students want to know to whom the public (or federal or national) debt is owed.Currently, about 74 percent of the debt is owed to U.S. citizens (individuals, businesses, andfederal, state and local governments). The remainder is owed to foreign individuals,businesses, and governments.4) Some argue for a balanced budget amendment to force congress to live within its budget. But,is there ever an occasion when the government should run a deficit--spend more than it takesin? Some would say yes. Balancing the budget in times of recession would increaseunemployment, as happened under President Hoover in the Great Depression. They arguefor balancing the budget over the business cycle--this means running a budget deficit duringdownturns and running a surplus (spending less than they take in) during times of inflation.Have students read the description on AmosWeb and debate the merits of each.http://www.amosweb.com/cgi-bin/awb_nav.pl?s=pdg&c=dsp&k=21Virginia Council on Economic Education

Lessons and ResourcesCapstone: Exemplary Lessons for High School Economics Unit 6: Lesson 36: Should We WorryAbout the National Debt?Focus: Understanding Economics in Civics and Government Lesson 5: Government SpendingEconEdLink.org – AP Economics: The Deficit and the Debthttps://www.econedlink.org/resources/ap-macroeconomics-the-deficit-and-the-debt/rFiscal Ship. A must-play game in which students attempt to balance the federal budget. From theBrookings Institution.https://fiscalship.org/25Virginia Council on Economic Education

EPF.7 The student will demonstrate knowledge of how monetary and fiscal policyinfluence employment, output and prices byc) describing sources of government revenueDay 1 – Sources of national, state, and local revenueContent KnowledgeWith a federal deficit and a very large National Debt some call for tax increases while others callfor cutting programs such as national defense, education, social security, and medicare, and stillothers stress the need to both decrease expenditures and increase revenue from taxes as a meansto balance our budget and reduce the National Debt. Where do local, state and federalgovernments get the money to pay for the goods and services they provide? Most federalgovernment tax revenue comes from personal income and payroll taxes. Payments to SocialSecurity recipients, the costs of national defense and homeland security, medical expenditures(such as Medicare), transfers to state and local governments, and interest payments on thenational debt constitute the bulk of federal government spending.Most state and local government revenues come from sales taxes, grants from the federalgovernment, personal income taxes, and property taxes. The bulk of state and local governmentrevenue is spent for education, public welfare (including hospitals and health), road constructionand repair, and public safety.2VocabularyTariff – A tax on imported goods.Excise Tax – A tax on the manufacture or sale of a good or service. They are typically levied ongoods and services a government wants to regulate. Sometimes excise taxes are called “sintaxes.”Property tax – Taxes that are commonly levied on real property, which consists of land andbuildings. Some governments also tax personal property, such as cars and boats.Virginia Board of Education FrameworkFederal, state, and local governments collect taxes and fees to pay for the goods and servicesthey provide.Most local governments depend primarily on property taxes.Most state governments depend on sales and income taxes.The federal government gets the largest percentage of its revenue from individual income taxes.Other sources include• payroll taxes for Social Security and Medicare programs (i.e., Federal InsuranceContributions Act – FICA)Virginia Council on Economic Education

• corporate income taxes• excise taxes (e.g., tax on cigarettes and alcohol)• fees (e.g., park entrance fees)• taris (i.e., taxes on certain imports, such as steel and sugar, for the purpose ofprotecting domestic producers)Teaching Tips1) Compare the various sources of state and local revenues and various categories of state andlocal expenditures in their state and community with those of the U.S. federal government.22) Analyze the following situation: A government has to raise $100 billion of revenues. It cando so through a sales tax or a progressive income tax. Explain the effect of each tax on a lowincome and a high income family.23) Have students analyze pie charts and determine the source of federal revenues: Charts areavailable at Concord Coalition.http://www.concordcoalition.org/learn/budget/federal-budget-pie-chartsLessons and ResourcesMathematics and Economics: Connections for Life – 9 – 12 Lesson 13: Tax MathFocus: Middle School Economics Lesson 11: Where Does the Money Come From?Concord Coalition--Federal Revenues and Expenditures:http://www.concordcoalition.org/learn/budget/federal-budget-pie-chartsEconEdLink.org – Why Cities Provide Tax Breaks Even When They Are Strapped for Revenue?https://www.econedlink.org/resources/why-cities-provide-tax-breaks-even-when-they-are-strapped-for-revenue/Making Sen$e with Paul Solman What Do Tax Rates' Ups and Downs Mean for EconomicGrowth?https://www.econedlink.org/resources/making-sene-with-paul-solman-what-do-tax-rates-ups-and-downs-mean-for-economic-growth/NOTE: These last two days can be incorporated with and added to Unit 7 on theRole of Government.27Virginia Council on Economic Education